Only a Counterparty Can Compel a Debtor to Cure a Default on a Contract that is Being Assumed

By: Brendan P. Shaw

St. John’s University School of Law

American Bankruptcy Institute Law Review Staff


Subject to court approval, a trustee or debtor in possession may assume or reject an executory contract or unexpired lease of a debtor under section 365 of title 11 of the United States Code (the “Bankruptcy Code”).[i] The trustee or debtor in possession must cure any defaults to assume a contract or lease.[ii] In In re George Washington Bridge Bus Station Dev. Venture LLC, the United States District Court for the Southern District of New York (the “Court”) affirmed a bankruptcy court’s decision and held that generally, only the non-debtor party to a contract can pursue a cure claim.[iii] In July 2011, George Washington Bridge Bus Station Development Venture LLC (the “Debtor”) and the Port Authority of New York and New Jersey (the “Port Authority”) entered into a contract,[iv] pursuant to which the Debtor agreed to develop a project in exchange for certain payments.[v] In its role as the developer, the Debtor retained a general contractor (the “GC”).[vi] The project was troubled with delays and disputes during its early stages.[vii] The Debtor consequently commenced an arbitration proceeding against the GC and the GC countered with a claim for $113 million in damages.[viii] In October 2019, while the arbitration was pending, the Debtor filed a voluntary petition for relief under Chapter 11 of the Bankruptcy Code.[ix] During the bankruptcy case, the Debtor proposed a reorganization strategy that entailed the sale of the majority of its assets, including its most valuable asset, the ground lease.[x] In connection with the sale, the Debtor filed a motion for an order to assume the unexpired ground lease with the Port Authority and assign it to a buyer.[xi] The GC objected, asserting that it had the right to demand that the Debtor cure its default under section 365(b)(1)(B) before the Debtor could assume and assign the ground lease.[xii] The GC argued that: (1) it was a third-party beneficiary with the right to demand that the debtor cure it’s defaults; and (2) even if it was not a third-party beneficiary, their economic interest in the Debtor’s obligations under the lease entitled them to bring a cure claim.[xiii] The Bankruptcy Court issued an order approving the settlement between Port Authority, the lenders, and the Debtor, which the GC appealed.[xiv] On appeal, the Court held the general rule that only a non-debtor to an executory contract can bring a cure claim applied and that if the GC’s purported economic interest in the performance of the ground lease could justify a cure claim, the result would be absurd.[xv]

The Court emphasized that under the absolute priority rule, “secured creditors are entitled to be paid in full in a corporate reorganization before unsecured creditors see any recovery.”[xvi] The Court further noted that the cure right is a narrow exception to this rule.[xvii] Moreover, the Court acknowledged that while section 365(b)(1)(A) does not expressly limit who may bring a claim, section 365(b)(1)(B) does.[xviii] Section 365(b)(1)(B) provides that “the trustee may not assume such contract or lease unless, at the time of assumption of such contract or lease, the trustee . . . compensates . . . a party other than the debtor to such contract or lease, for any actual pecuniary loss to such party resulting from such default . . . .”[xix] The Court noted that the exception’s purpose is to protect property of the estate and consequently the provisions of section 365(b)(1)(A) must contain the same limitation as section 365(b)(1)(B).[xx] The Court stated that the exception follows from a clear statutory purpose and serves as a means of protecting property of the estate.[xxi] The Court explained that an in-the-money executory contract is property of the estate, but the estate is only entitled to that value which the debtor bargained.[xxii] The Court further reasoned that the clear statutory purpose would not “justify a cure claim brought by a third party, who is not bound to continue performing under the executory contract, and who merely has an economic interest in the debtor’s continued performance.”[xxiii]

In its decision, the Court acknowledged that a trustee or debtor in possession must cure any defaults to assume a contract or lease.[xxiv] However, the Court stated that a counterparty is the party that can demand such cure.[xxv] The Court further emphasized that a third-party beneficiary does not fall within the purview of the exception to the absolute priority rule.[xxvi]

[i] 11 U.S.C.S. § 365.

[ii] Id.

[iii] In re George Wash. Bridge Bus Station Dev. Venture LLC, 2021 U.S. Dist. LEXIS 146040, at *15 (S.D.N.Y. Aug. 4, 2021).

[iv] Id. at *3.

[v] Id. at *3-4.

[vi] Id. at *4.

[vii] Id.

[viii] Id.

[ix] Id.

[x] Id.

[xi] Id. at *5.

[xii] Id.

[xiii] Id. at *6.

[xiv] Id. at *7.

[xv] Id. at *18.

[xvi] Id. at *7.

[xvii] Id.

[xviii] Id. at *17.

[xix] 11 U.S.C.S. § 365.

[xx] See In re George Wash. Bridge Bus Station Dev. Venture LLC, 2021 U.S. Dist. at *14-18.

[xxi] Id. at *16.

[xxii] See id. at *16.

[xxiii] Id. at *16–17.

[xxiv] Id. at *17

[xxv] Id. at *15

[xxvi] Id. at *7.