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CASCADE FUNDING, LP - SERIES 6, Plaintiff, v. The BANCORP BANK, Defendant.
This is a breach of contract case. Plaintiff (Cascade) agreed to acquire from Defendant (Bancorp) a pool of more than $825 million in commercial mortgage loan assets with an aim toward packaging them in a Collateralized Loan Obligation (CLO) transaction. The agreement was signed in late February 2020, just before the COVID-19 pandemic rattled financial markets in general and the commercial real estate CLO market in particular. The central question in this case is whether those circumstances triggered a “Market Disruption” provision in the parties’ agreement that, if applicable, permitted Cascade to terminate the transaction and recover its $12,469,316 deposit. Cascade seeks summary judgment in its favor. For the reasons that follow, Cascade's motion is granted.
Plaintiff Cascade Funding, L.P. is a Delaware investment fund and an affiliate of Waterfall Asset Management, LLC, which is an asset manager focused primarily on asset-backed securities, lending, and private equity investments. Plaintiff was formed for the purpose of purchasing and securitizing mortgage loans (Pls.’ stmt. of undisputed facts [“SUMF”] ¶ 11 [NYSCEF 119]). Defendant The Bancorp Bank is a Delaware-chartered commercial bank that, among other things, originates commercial mortgage loans and sponsors Commercial Real Estate Collateralized Loan Obligations (“CRE CLO[s]”) (id. ¶¶ 1, 10).
On February 24, 2020, Bancorp and Cascade executed a Purchase and Sale Agreement (PSA) (NYSCEF 53) under which Cascade agreed to purchase from Bancorp a pool of more than $825 million in commercial mortgage loan assets (id. ¶¶ 1, 23). The parties contemplated that Cascade would simultaneously package those assets into CRE CLOs to be marketed and sold to investors in a securitization targeted to close no later than April 15, 2020.
Section 7.5 [c] of the PSA contains the termination provision on which this litigation focuses:
Market Disruption. Notwithstanding anything to the contrary in this Article VII, if (i) the Purchaser elects to pursue a Securitization to fund the purchase of the Closing Date Mortgage Assets and has been working in good faith to close such Securitization on a Target Closing Date and (ii) no earlier than fifteen (15) days prior to the scheduled closing date of the Securitization, the Purchaser provides written evidence to the Seller (satisfactory to the Seller in its reasonable good faith) that, based on levels provided by a retained rating agency for the Securitization, the ‘AAA’ grade bonds in the Securitization would, (1) if the Securitization is a static transaction, price at a rate higher than LIBOR+200bp or (2) if the Securitization is a managed transaction, price at a rate higher than LIBOR+220bp, then the Purchaser shall have the right to terminate the Transaction and will have no obligation to purchase the Mortgage Assets.
The Market Disruption provision gave Cascade a “securitization out” (and return of its hefty deposit)1 based on an objective change in market conditions. The magnitude of the LIBOR spread in the proposed securitization was critical to Cascade because its return on the transaction depended on there being excess cash flowing from the mortgage loans after payment to bondholders. The higher the interest rate paid to bondholders, the less likely that there would be a return on Cascade's investment. The contract uses the AAA-rated spread as a proxy for how the market disruption might impact spreads at lower-rated tranches for which spreads could be considerably wider. At the time of the transaction, securitizations of similar AAA-rated mortgage assets were priced at roughly LIBOR +100 bp (SUMF ¶¶ 6-7), and thus the Market Disruption provision added a substantial cushion. But then came COVID-19.
In its summary judgment papers, Cascade submitted substantial evidence that, by March 31, 2020 (i.e., within fifteen days of closing), it had become clear that pandemic-related uncertainties had drastically impacted the market for commercial real estate CLOs (e.g., SUMF ¶¶ 40-59). Indeed, that market effectively had shut down, with not a single new issuance between March 2, 2020, and May 19, 2020. Deals in the marketing phase were pulled as demand vanished. Spreads in the secondary market for AAA CRE CLO bonds—the only pricing information available in the absence of primary issuances—widened to levels ranging from LIBOR+300bp to mid-500bp in late March. Bancorp's CRE-6 AAA grade bonds, with collateral that was substantially similar to the assets in the Cascade transaction, traded significantly above LIBOR +200bp. Rating agencies were unable to offer “transactable” final credit enhancement levels for the proposed Cascade bonds. Cascade's underwriter (market leader JPMorgan Securities LLC) provided its view in writing that AAA CRE CLO bonds would price at LIBOR +250 bp with a LIBOR “floor” (a provision that was not part of the proposed securitization) and at LIBOR +300 bp without such a floor (SUMF ¶ 73). Indeed, even when the primary CRE CLO market returned in an improved market environment on May 19, 2020, AAA bonds still priced well above the Market Disruption threshold of LIBOR+200 bp (id. ¶ 42).
Bancorp was keenly aware of these developments and their potential impact on the Cascade transaction. Throughout March 2020, it worked closely with Wells Fargo (its CLO underwriter) to monitor the market, concluding among other things that “[w]e're a long way from [L] +199” (SUMF ¶¶ 50-59). Moreover, Bancorp's CEO acknowledged that not all of the Mortgage Assets to be sold in connection with the PSA could have been securitized, as the company was providing forbearance relief to certain hotel-backed loans at the time (id. ¶ 49 [citing testimony of Bancorp's CEO that because the loans backed by hotels “weren't paying” and “weren't income-producing properties anymore ․ they could not be securitized”]). In the end, Bancorp does not deny that the market for new CRE CLO issuances was inactive (NYSCEF 226 [Bancorp's counter-statement of material facts] ¶¶ 41, 51) or that the only available trading data in March 2020 (i.e., secondary market transactions) showed spreads substantially wider than LIBOR+200 bp. Its position instead is that the only contractually relevant indicator of how the Cascade bonds “would price” is whatever a buyer would be willing to pay if and when the bonds were offered for sale—even if the only willing buyer happened to be Bancorp itself.
Faced with the prospect of losing the transaction, Bancorp got creative. The chairman of Bancorp's board of directors had what its senior executive on this transaction called the “great idea” that Bancorp “should buy the bonds” to “satisfy the MAC [Market Disruption] clause” (SUMF ¶ 61). The idea was approved by Bancorp's CEO. On March 26, 2020, an internal email confirmed that Bancorp planned to bid for “all the [Cascade] AAA bonds” at “L+199” (SUMF ¶ 63). Although the parties had been discussing the Market Disruption provision during this period, Bancorp did not disclose to Cascade its purported intention to bid on the AAA-rated bonds at LIBOR +199 bp.
The record indicates that Bancorp's decision to bid for the Cascade bonds was made “[b]ecause of the [Market Disruption] clause” and not for “any other reason”; “[I]f the market was lower than [LIBOR +] 199, [Bancorp] wouldn't have bid” (SUMF ¶ 61). Although Bancorp now suggests it might have had other reasons to bid on the bonds (“it would have profited from the transaction and it knew and liked the underlying collateral”) (NYSCEF 226 ¶ 61), it is undisputed that when the PSA was signed a few weeks earlier Bancorp had stated explicitly that “we are not buying any bonds in the securitization” (SUMF ¶ 60).
In the meantime, on March 31, 2020, Cascade sent Bancorp a notice of termination exercising the Market Disruption clause, terminating the PSA, and demanding the return of its $12,469,316 Deposit (SUMF ¶ 76). Cascade attached the JPMS determination as its written evidence that the Market Disruption provision had been triggered (id.). On April 1, 2020, Bancorp rejected the JPMS email as written evidence, insisting that Cascade obtain “actual bids” from investors “following a market standard process,” but without disclosing any intention to bid on those securities, if marketed (id. ¶ 77).
On April 2, 2020, Cascade responded by supplying evidence of current market conditions corroborating JPMS's determination: that no new primary issuances had occurred, that AAA grade bonds in Bancorp's own deals had traded in the secondary market well wide of LIBOR+200bp, and that numerous transactable bids and asks from broker dealers for CRE CLO AAA grade bonds substantially exceeded LIBOR +200bp, and generally LIBOR +300bp (e.g., id. ¶ 78). Bancorp, once again, rejected Cascade's evidence (id. ¶ 79).
On April 9, 2020, Bancorp for the first time disclosed to Cascade that it “was prepared to bid on all of the ‘AAA’ grade bonds offered by the Securitization had the Securitization been marketed in normal course, and would still be comfortable holding those bonds at LIBOR+199” (id. ¶ 81).
On April 15, 2020, Bancorp sent Cascade a notice of default claiming that it would terminate the PSA and retain Cascade's Deposit if the purchase did not close by April 29, notwithstanding that Cascade had already terminated the PSA (id. ¶ 83). On April 30, Bancorp publicly announced that it was retaining the $12.5 million Deposit and intended to recognize it as income (id. ¶ 84).
Cascade filed its Complaint in this action shortly thereafter, on May 25, 2020. It asserts causes of action for (1) Breach of Contract; (2) Injunction and Specific Performance for return of the deposit; and (3) a Declaratory Judgment that Cascade properly terminated the PSA under § 7.5 [c] (Complaint ¶¶ 47-68). In substance, the claims seek the same relief: return of Cascade's $12,460,316 deposit, plus prejudgment interest and costs, interest, expenses, and attorneys’ fees.
Note of Issue was filed on September 3, 2021 (NYSCEF 30).
The standard for assessing a motion for summary judgment is a familiar one. “The proponent of a summary judgment motion must make a prima facie showing of entitlement to judgment as a matter of law, tendering sufficient evidence to eliminate any material issues of fact from the case” (Winegrad v. New York Univ. Med. Ctr., 64 N.Y.2d 851, 853, 487 N.Y.S.2d 316, 476 N.E.2d 642 , citing Zuckerman v. City of New York, 49 N.Y.2d 557, 562, 427 N.Y.S.2d 595, 404 N.E.2d 718 ; Ostrov v. Rozbruch, 91 A.D.3d 147, 936 N.Y.S.2d 31 [1st Dept. 2012]). If the moving party crosses that threshold, the party opposing the motion “must produce evidentiary proof in admissible form sufficient to require a trial of material questions of fact on which he rests his claim or must demonstrate acceptable excuse for his failure to meet the requirement of tender in admissible form; mere conclusions, expressions of hope or unsubstantiated allegations or assertions are insufficient” (Zuckerman, 49 N.Y.2d at 562, 427 N.Y.S.2d 595, 404 N.E.2d 718; see Glassman v. Weinberg, 154 A.D.3d 407, 408, 62 N.Y.S.3d 54 [1st Dept. 2017] [“[D]efendant's vague and unsubstantiated allegations ․ [were] insufficient to raise an issue of fact”]).
The Court finds that Cascade has satisfied its burden of making a prima facie showing that it was entitled to judgment as a matter of law. Based on the summary judgment record, it is difficult to imagine a clearer “market disruption,” as defined in the PSA, than what occurred in the CRE CLO market in March 2020. The undisputed evidence showed that there was no market for primary issuances of CRE CLOs such as that contemplated by Cascade. In that setting, Cascade's reference to secondary market transactions (the only available objective evidence) and the views of its experienced underwriter (JP Morgan Securities) to bolster the assertion that a “market disruption” event had occurred — as measured by the contractual definition of LIBOR +200 bp — was entirely reasonable. There simply is no evidence that “the market” would have priced Cascade's AAA-rate bonds at less than LIBOR +200 — indeed, the evidence suggests the bonds could not have been sold at all at the time as there was no active primary market.
In response to this compelling evidentiary record, Bancorp offers two main arguments for why the Market Disruption provision was not validly triggered. First, it asserts Cascade should have gone through the effort of trying to market the bonds and solicit actual bids before concluding that the bonds could not be priced at or below LIBOR +200 bp. Second, it argues that the Market Disruption provision was not triggered because Bancorp itself had determined that it would be willing to buy the bonds (if offered) at LIBOR +199 bp in order to preserve the transaction. The Court rejects both of Bancorp's arguments, as a matter of law, based on the language of the PSA and the record evidence.
The Market Disruption provision, by its terms, does not require Cascade to proceed with objectively futile marketing efforts to prove the market potential of the bonds in an admittedly frozen market. Instead, it provides for the determination to be made within two weeks of closing based on written evidence of market conditions. The contract provides no basis for Bancorp's insistence that the only acceptable evidence of market disruption would be “actual bids.” In the end, given that Bancorp does not contest the absence of an active market for primary issuances in March 2020, Bancorp's cagey insistence on attracting “actual bids” collapses into its more intriguing second argument that evidence regarding the market as a whole simply does not matter — all that matters is that Bancorp itself would have bought the bonds at LIBOR +199 bp to save the transaction.
As Bancorp candidly and succinctly describes the point: “Cascade's breach of contract claim fails because ․ Bancorp itself had already decided to buy those bonds at a lower spread, so Bancorp knew to a certainty that Cascade's purported evidence that the bonds would sell at a higher spread was false. It's that simple” (Defendant's Memorandum in Opposition [“Memo in Opp”] [NYSCEF 158] at 1). To be sure, there is some logic to the argument that, as a general matter, a market clearing price can be set by a single purchaser — in this case, Bancorp itself. (For present purposes, the Court assumes that Bancorp would in fact have purchased the bonds at LIBOR +199 but notes that the cagey language in its April 9 letter leaves that in some doubt.)
The problem with Bancorp's argument, however, is that it clashes with the language and clear purpose of the contract, which focuses on whether there has been a market disruption measured against an objective standard. Bancorp's approach would transform the termination provision into a subjective one — essentially, it would give Bancorp a unilateral option to extinguish Cascade's termination right regardless of market conditions. Unlike other market participants, Bancorp would have an independent off-market financial incentive to save the transaction from termination — at a minimum, keeping Cascade's $12.5 million deposit. The parties could have agreed to such a provision, effectively locking Cascade into a 99 bp adverse change in LIBOR spreads for the AAA-rated tranche (at Bancorp's option) and whatever spillover effects there might be to lower tranches. But that is not what they did.
Although questions involving reasonableness and good faith commonly raise fact questions precluding summary judgment, that is not always the case (e.g., S.T. v. 1727-29 LLC, 189 A.D.3d 10, 16, 127 N.Y.S.3d 16 [1st Dept. 2020] [“Although the issue of reasonableness is often a jury question, we have decided the issue as a matter of law when warranted by the undisputed facts”]), and it is not the case here. In sum, the Court finds that the summary judgment record overwhelmingly demonstrates, as a matter of law, that Cascade validly terminated the PSA on March 31, 2020. It is, therefore, entitled to the return of its Deposit plus prejudgment interest.2
Accordingly, it is
ORDERED that Plaintiff's motion for Summary Judgment is GRANTED on the First, Second, and Third Causes of Action in the Complaint; it is further
ORDERED, ADJUDGED, and DECLARED that Cascade validly and justifiably terminated the Purchase and Sale Agreement pursuant to Section 7.5 [c] and that Bancorp is required to return the Deposit, plus prejudgment interest, to Cascade; it is further
ORDERED that Plaintiff is awarded damages on its claim for breach of contract in the amount of $12,469,316 plus prejudgment interest at the statutory rate running from March 31, 2020, and chargeable court costs;3 and it is further
ORDERED that the Clerk enter judgment accordingly.
This constitutes the Decision and Order of the Court.
1. Pursuant to Section 2.5(a) of the PSA, Cascade agreed to (and did) pay Bancorp an initial deposit of $12,469,316 on February 24, 2020 in connection with executing the PSA. The PSA provides for the return of that Deposit in the event the PSA is justifiably terminated by Cascade.
2. Bancorp's alternative suggestion that Cascade cannot exercise the Market Disruption termination provision because it was not “working in good faith” to close the securitization is unavailing. Cascade provided substantial evidence that it had accomplished all scheduled tasks at the time of termination. But even crediting Bancorp's assertions that Cascade could have done more to prepare for closing, the evidence makes clear that Cascade was responding rationally to the overwhelming evidence that there was no market for primary issuances of CRE CLOs. And in any event, Bancorp itself acknowledges that notwithstanding its criticisms of Cascade's level of effort as of March 31, 2020, Cascade could have closed the securitization on April 15, 2020 if it had been required to do so (NYSCEF 226 ¶ 39).
3. Although Cascade's Complaint seeks an award of “expenses” and attorneys’ fees, no grounds for granting such relief were provided in the summary judgment papers.
Joel M. Cohen, J.
Response sent, thank you
Docket No: Index No. 651841/2020
Decided: April 21, 2022
Court: Supreme Court, New York County, New York.
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