The dust continues to settle on litigation stemming from the Lehman bankruptcy. A recent SDNY Bankruptcy Court opinion (In re Lehman Brothers Holdings, Firstbank Puerto Rico v Barclays Capital (2013 WL 1932167 (Bkrtcy.S.D.N.Y.)) examined a dispute stemming from securities that had been pledged by a plaintiff bank to collateralize an interest rate swap transaction that it had entered into with Lehman. The pledged securities were later transferred by the Lehman swap counterparty entity to another Lehman affiliate, and then sold by the transferee Lehman affiliate to a third party as part of a bankruptcy-driven asset sale.
In holding that the third party acquirer of the pledged securities was not obligated to return them to the plaintiff bank, the court noted that the type of collateral transfer between Lehman entities – essentially an internal repo transaction – was authorized by the terms of the relevant ISDA Master Agreement and CSA between the plaintiff bank and original Lehman swap counterparty, as well as by the terms of the master repurchase agreement between Lehman affiliates. The court left open the possibility that the plaintiff bank could bring a claim against the Lehman swap counterparty for potentially breaching the swap agreement by not returning the pledged securities, but concluded that the plaintiff bank had no claim against the third party purchaser based on the terms of the relevant ISDA Master Agreement and CSA; master repurchase agreement; and asset purchase agreement between the transferee Lehman affiliate and third party purchaser.
The court also relied on a previous opinion in a 2011 case (In re Lehman Brothers Holdings, Evergreen Solar v Barclays Capital, 2011 WL 722582 (Bkrtcy.S.D.N.Y.)). That case similarly involved a plaintiff that had pledged stock to a Lehman counterparty, and brought suit when the pledged shares were included by the transferee Lehman counterparty as part of a bankruptcy driven asset sale to a third party. In holding that the plaintiff had no recourse against the third party purchaser of the pledged stock, the court weighed in on the significant issue of whether the plaintiff had ample notice of pending sale of the pledged collateral to a third party:
“(Plaintiff) contends that….it never received notice that shares were going to be sold….nor were there sufficient publicly disclosed facts to put it on notice. The particular circumstance that prevailed at the time of the (bankruptcy asset sale) hearing was a profound emergency of historic proportions, and the loan shares at issue were held as part of a book of financial assets that was thought to be quickly losing value. Accordingly….we are all here with, perhaps cobbled together notice, but its notice”.
The magnitude of the Lehman filing may make this type of situation somewhat unique, but practitioners will no doubt understand the implications from these cases regarding monitoring the extent to which pledged collateral could ultimately be swept into bankruptcy-driven asset sales to third parties.