The United States Bankruptcy Court for the Southern District of New York has ruled that a debtor can reject the price for property established at a public auction and re-price the property 18 months later based upon evidence of prices in other subsequent sales. In its NextWave decision, the Court held that transfers and the incurrence of debt aggregating $4.7 billion by NextWave Personal Communications, Inc. ("NextWave") to the Federal Communications Commission ("FCC") for licenses for radio spectrum for personal communications service ("PCS") constituted constructive fraudulent transfers and were subject to avoidance under Section 544 of the Bankruptcy Code. In a later, separate opinion, the Bankruptcy Court ruled that the appropriate remedy was avoidance of Nextwave's obligation to the FCC, except to the extent that the FCC had provided value to the debtor's estate. NextWave Personal Communications, Inc. v. Federal Communications Commission (In re NextWave Personal Communications, Inc., et al.), Adv. Pro. No. 98-5178A (Bankr. S.D.N.Y. June 22, 1999).⁽¹⁾

NextWave had participated in the FCC's auction of 63 C block licenses for PCS in July 1996. NextWave's winning bids aggregated $4.7 billion. After NextWave was declared high bidder at the auction, its application for the licenses had to be approved by the FCC. NextWave paid 10% of its bid in cash as a deposit and, upon FCC approval of its application seven months later in February 1997, NextWave executed promissory notes for $4.2 billion, the remaining 90% of its bid. In June 1998, NextWave filed for protection under Chapter 11 of the Bankruptcy Code and commenced an adversary proceeding seeking a determination that its cash payment and promissory notes were constructive fraudulent transfers and subject to avoidance under Section 544 of the Bankruptcy Code.

The Bankruptcy Court's two decisions raise interesting questions for private parties involved in fraudulent transfer litigation. The Bankruptcy Court ruled that the "transfers" occurred in February 1997 when the FCC approved the C block licenses and NextWave executed and delivered the promissory notes. The only issue tried by the Bankruptcy Court was the value of the C block licenses transferred in February 1997. Apparently, the parties had stipulated that the "transfers" rendered NextWave insolvent and that NextWave was engaged or was about to engage in a business for which its remaining assets were unreasonably small in relation to the transaction. Oddly, the FCC abandoned the argument that the public auction established that value that was transferred by the FCC to NextWave. If the auction price had established the value, then the transfer would not have left NextWave insolvent, since it would have received an asset equal to the liability incurred. Once the FCC had stipulated to insolvency, the ultimate outcome of the case insofar as the fraudulent transfer laws were concerned seemed to be a foregone conclusion.

Instead, the FCC argued that the value of the C block licenses transferred could be established through a discounted cash flow analysis. NextWave argued, consistent with the definition of "fair market value" as defined by appraisers and the courts, that value could be determined by "the amount at which the assets would change hands between a willing buyer and a willing seller, in an arm's length transaction. . . ." NextWave argued that a subsequent auction of PCS licenses, not the July 1996 auction of C block licenses, established the market price based upon a market comparable analysis. The Bankruptcy Court rejected the FCC's discounted cash flow analysis and adopted NextWave's market comparable analysis based upon the subsequent auction, concluding that the C block licenses had a value of only $1.023 billion when transferred to NextWave.

The decision does not clearly explain why the original July 1996 auction price was not the proper measure of value, since it determined precisely what price a willing buyer would pay to a willing seller for the C block licenses. The failure to consider the July 1996 auction price is even more problematic in light of the United States Supreme Court's decision in BFP v. Resolution Trust Corp., 511 U.S. 531; 114 S. Ct. 1757; 128 L. Ed. 2d 556 (1994), which held that the auction price in a judicially conducted foreclosure sale was determinative of "reasonable equivalent value" for purposes of a subsequent fraudulent transfer analysis. The decision also fails to explain adequately why the delivery of notes in February 1997 was not a reasonably equivalent exchange for satisfaction of NextWave's legal obligation to close the purchase at the price bid in July 1996. Perhaps peculiarities in the FCC's protracted auction process, which does not contemplate closing until the FCC approves the high bid--a process that takes months to complete--, distinguish the situation from a commercial auction where the high bidder must close immediately.⁽²⁾

The remedy selected by the Bankruptcy Court also merits comment. Adopting a strict construction approach, the Bankruptcy Court held that the statutory language of Bankruptcy Code §544 required avoidance of the transfers, except to the extent value was given. The Bankruptcy Court rejected the FCC's argument that subordination of the avoidable transfer amount to the claims of other creditors was an appropriate remedy. Thus, the effect of the decision was to enable the owners of NextWave to benefit from the avoidance, a result not possible outside of bankruptcy. The Bankruptcy Court suggested in dicta that subordination rather than avoidance may be an appropriate remedy for debt incurred to finance a leveraged buyout, but that suggestion is contrary to the Court's strict construction of Section 544. In the case of a failed LBO, the statutory analysis set forth in NextWave would require avoidance of an LBO lender's obligation, since Section 544 authorizes the avoidance of an obligation or transfer, not subordination of the obligation. In that event, a Chapter 11 filing raises significant new possibilities for an LBO sponsor to retain ownership of the business free of the debt that financed the acquisition.

¹ The Bankruptcy Court's decisions were affirmed by the United States District Court, Southern District of New York. NextWave Personal Communications, Inc. v. Federal Communications Commission (In re NextWave Personal Communications, Inc., et al.), 99 Civ. 4439 (CLB) (S.D.N.Y. July 27, 1999). The District Court's decision is currently on appeal to the United States Court of Appeals for the Second Circuit.

² This explanation is unsatisfactory, however, since the high bidder at an FCC auction must close at the amount bid after FCC approval has been granted or face damages for default. The regulations provide that upon default, the high bidder must pay the difference between the high bid and the amount of the winning bid the next time the license is offered for sale by the FCC plus 3% of the subsequent winning bid. 47 C.F.R. §§ 1.2104(g), 1.2109.