Opinion
Case No. 20-10390 (Jointly Administered) Adv. Pro. No. 20-1008
2020-08-08
IN RE: MURRAY METALLURGICAL COAL HOLDINGS, LLC, et al., Debtors. Murray Oak Grove Coal, LLC, Plaintiff and Counter-Defendant, v. Bay Point Capital Partners II, LP, Defendant and Counter-Claimant
Thomas R. Allen, Rick L. Ashton, James A. Coutinho, Richard K. Stovall, Matthew M. Zofchak, Allen Stovall Neuman Fisher & Ashton LLP, Columbus, OH, for Plaintiff and Counter-Defendant. John Christopher Allerding, Alan R. Lepene, Thompson Hine LLP, Cleveland, OH, for Defendant and Counter-Claimant.
Thomas R. Allen, Rick L. Ashton, James A. Coutinho, Richard K. Stovall, Matthew M. Zofchak, Allen Stovall Neuman Fisher & Ashton LLP, Columbus, OH, for Plaintiff and Counter-Defendant.
John Christopher Allerding, Alan R. Lepene, Thompson Hine LLP, Cleveland, OH, for Defendant and Counter-Claimant.
OPINION AND ORDER ON COMPLAINT AND COUNTERCLAIM
John E. Hoffman, Jr., United States Bankruptcy Judge I. Introduction
This adversary proceeding arises in the Chapter 11 cases of Murray Metallurgical Coal Holdings, LLC and its affiliated debtors and debtors in possession (collectively, the "Debtors"). One of the Debtors, Murray Oak Grove Coal, LLC ("Murray Oak Grove"), seeks to recharacterize its equipment lease with Bay Point Capital Partners II, LP ("Bay Point") as a disguised security agreement. Conceding that the lease is indeed a disguised security agreement, Bay Point requests a declaratory judgment that it has a first priority, properly perfected security interest in the collateral, which is comprised of certain longwall shields and their affixed electronic controls (collectively, the "Collateral") located at the mine operated by Murray Oak Grove in Jefferson County, Alabama (the "Oak Grove Mine"). Murray Oak Grove, in turn, concedes this point, stipulating that Bay Point does in fact hold a first priority, properly perfected security interest in the Collateral.
With those preliminaries out of the way, the parties turned to the main event—litigating the amount of Bay Point's allowed secured claim under § 506(a) of the Bankruptcy Code. Under § 506(a) the allowed amount of a creditor's secured claim is equal to the value of the property securing the claim. Thus, the outcome of the parties' dispute hinges on a determination of the value of the Collateral. Bay Point asserts that the Collateral's value is at least $13,347,231.80, plus the amount of any accrued interest, late charges, and reasonable costs, expenses and legal fees. According to Bay Point, the Court's valuation of the Collateral must be based on a replacement-value standard—that is, the amount that Murray Oak Grove would need to pay to replace the Collateral with comparable property. For its part, Murray Oak Grove contends that the Collateral should be valued at the amount it could obtain for the Collateral if it were removed from the Oak Grove Mine and sold to a third party. And it also contends that the valuation should reflect the possibility that the purchaser of the Oak Grove Mine, Hatfield Metallurgical Company ("Hatfield"), might decide to stop using the Collateral at some point after confirmation of the Debtors' Chapter 11 plan (the "Plan"). On the basis of these considerations, Murray Oak Grove urges the Court to fix the value of the Collateral at $2,985,000.
Because the Collateral is not being surrendered to Bay Point, the Court concludes that Supreme Court precedent requires application of the replacement-value standard. Under this standard, the price for which Murray Oak Grove could sell the Collateral if it were removed from the Oak Grove Mine is legally irrelevant. Nor is it legally relevant whether Hatfield in the future opts not to use the Collateral for its full remaining useful life. Applying the replacement-value standard, and for the reasons explained below, the Court concludes that the value of the Collateral is $12,682,933.
II. Jurisdiction and Constitutional Authority
The Court has jurisdiction to hear and determine this matter under 28 U.S.C. § 1334(b) and the general order of reference entered in this district in accordance with 28 U.S.C. § 157(a). This is a core proceeding. 28 U.S.C. § 157(b)(2)(A), (K) & (O). Because a dispute over the valuation of collateral for purposes of plan confirmation "stems from the bankruptcy itself," the Court also has the constitutional authority to enter a final judgment in this adversary proceeding. Stern v. Marshall , 564 U.S. 462, 499, 131 S.Ct. 2594, 180 L.Ed.2d 475 (2011). In addition, in Wellness Int'l Network, Ltd. v. Sharif , 575 U.S. 665, ––––, 135 S. Ct. 1932, 1942, 191 L.Ed.2d 911 (2015) the Supreme Court held "that litigants may validly consent to adjudication by bankruptcy courts," which Murray Oak Grove and Bay Point have done here, Am. Joint Prelim. Pretrial Statement (Doc. 9) at 2.
III. Procedural History
Murray Metallurgical Coal Holdings, LLC ("Met Holdings") filed a voluntary petition for relief under Chapter 11 of the Bankruptcy Code on February 11, 2020, followed by Murray Oak Grove and the other Debtors on February 12, 2020 (the "Petition Date"). In the complaint commencing this adversary proceeding, Murray Oak Grove seeks a declaratory judgment that an Equipment Lease Agreement (the "Agreement") is not a true lease but rather a disguised financing arrangement. Compl. (Doc. 1) at 8–9. Bay Point does not contest this point. Am. Joint Prelim. Pretrial Statement (Doc. 9) at 2. Murray Oak Grove also requests a declaratory judgment under § 506(c) of the Bankruptcy Code that the amount of Bay Point's allowed secured claim, if any, should be reduced by the amount of the reasonable and necessary costs and expenses that Murray Oak Grove has incurred and will incur to preserve, maintain and dispose of the Collateral. Compl. at 9–10. Bay Point answered, denying that Murray Oak Grove has any right to surcharge Bay Point's interest in the Collateral. Doc. 4 at 3. Bay Point also asserted a counterclaim in which it seeks a judgment declaring that it has a first priority, properly perfected security interest in the Collateral and an allowed secured claim in the amount of $13,347,231.80, plus accrued interest, late charges, reasonable costs and expenses and legal fees. Id. at 13. The Debtors answered Bay Point's counterclaim by contending, among other things, that Bay Point's secured claim is limited to the value of Bay Point's interest in the longwall shields that comprise part of the Collateral, Doc. 6 at 7. As already stated, the Debtors now concede that the Collateral includes not only the shields but their affixed electronic controls as well, yet they contend that the Collateral's value is $2,985,000—roughly 75 percent less than the allowed secured claim amount asserted by Bay Point.
After the parties filed an amended joint preliminary pretrial statement (Doc. 9), the Court entered an agreed order setting trial dates and establishing procedures under which the trial would be conducted virtually in light of the emergency caused by COVID-19 (Doc. 10). The trial was held over the course of three days, concluding on July 2, 2020. The transcript of the first day of the trial is docketed at Doc. 24 ("Transcript I"), the transcript of the second day at Doc. 26 ("Transcript II"), and the transcript of the third at Doc. 28 ("Transcript III").
The exhibits that were admitted into evidence during the trial are: Joint Exhibits VI through VII, XIV through XX, XXV, XXVIII, XXXII and XXXIII; Bay Point Exhibits F, R, S, V, W, FF, SSS and YYY; and Murray Oak Grove Exhibits 18, 22 through 25, 31 through 33, and 35. Tr. III at 88, 144–45. In addition, Murray Oak Grove filed a motion (Doc. 17) to admit Joint Exhibit X and Bay Point a motion (Doc. 18) to admit Joint Exhibit VIII, both of which are granted. During the trial, the Court heard from six witnesses—James Turner, Eric Koontz, Adam Stump, John Startin, Mark Bartkoski, and Ronald Lewis—whose relevant testimony is summarized below in the Court's findings of fact. The parties submitted a joint stipulation of facts after the trial (the "Stipulations") (Doc. 20). The parties agreed in the Stipulations, among other things, that the Agreement constitutes a secured financing arrangement rather than a true lease and that Bay Point perfected a first priority security interest in all of the Collateral, both the longwall shields and their electronic controls. Stips. ¶¶ 2–3. At the suggestion of the parties, the Court agreed at the end of the trial to defer a ruling on the issue of Murray Oak Grove's right to surcharge the Collateral under § 506(c). Tr. III at 141. In light of the parties' stipulations and the deferral of the Court's ruling on the § 506(c) issue, the only issue before the Court in this opinion is the value of the Collateral.
IV. Findings of Fact
Based on the parties' stipulations and the evidence adduced at trial, including the documentary evidence and the testimony presented, and having considered the demeanor and credibility of the witnesses, the Court makes the findings of fact set forth below.
A. Murray Oak Grove, Its Longwall Mining Operation, and the Secured Financing with Bay Point
Murray Oak Grove is owned by Murray Alabama Coal, LLC, which in turned is owned by Met Holdings, an entity formed for the purpose of acquiring certain assets from Mission Coal Company, LLC and its affiliated Chapter 11 debtors ("Mission") in April 2019. Ex. VIII (Disclosure Statement for Second Amended Joint Chapter 11 Plan of Murray Metallurgical Coal Holdings ("Disclosure Statement")) at 20. One of the assets that the Debtors acquired from Mission is the Oak Grove Mine in Alabama (the "Oak Grove Mine"). Id. at 21; Tr. I at 155. The Debtors are proposing to sell the Oak Grove Mine to Hatfield, the winning bidder for substantially all the assets of Murray Oak Grove. Disclosure Statement at 2–4, 41–42; Tr. I at 90.
The Oak Grove Mine is an underground longwall mining operation. Tr. I at 41–42. A longwall mine is developed by digging two parallel tunnels through the surface of the earth. The parallel tunnels, which are the entry and exit points for the mine, are known as the "headgate" and "tailgate" sides. They are connected underground by a perpendicular tunnel that exposes the face of the longwall "panel," a large rectangular block of coal averaging several yards in height that can range from around 2,000 to more than 20,000 feet in length and from about 500 to over 1,500 feet in width across the face of the panel. Id. at 48, 54. Mining begins at the longwall face and moves through the coal deposit (the "seam") toward the entrance of the mine. Multiple supports, known as shields, are installed side by side along the face of the longwall to support the roof during the mining process. Gate shields are placed at the headgate and tailgate ends of the mine, and face shields are installed along the face in between the gate shields. Each shield somewhat resembles a large "C," with the open end placed against the face of the longwall panel and the top (known as the canopy) installed against the roof immediately adjacent to the longwall. Underneath the canopy of the shields, a shearing machine moves back and forth across the face, cutting the coal from the face and spilling it onto a conveyor belt that carries the coal out of the mine. The shields protect the workers and the equipment located on the face. After a certain thickness of coal is removed, the shields advance forward toward the newly exposed face, and the roof collapses behind the closed end of the shields. Id. at 44–45, 156–57. During the trial, the Court viewed a video offered by Murray Oak Grove that illustrated the operation of longwall mining equipment. The video's narrator explained, among other things, that "hydraulically-operated roof support shields are set side by side along the face of the coal block. These shields use large hydraulic rams to support the roof, and prevent the roof and floor from collapsing into the mining area. These operations are carried out in a set sequence to advance the longwall equipment as the coal is removed." Tr. I at 43–44. The advancement of the longwall shields, each of which weighs around 30 tons, occurs by means of electronic controls. Id. at 45, 159–60.
The video is available at https://m.youtube.com/watch?v=HHaUypSqdzM.
The valuation dispute with Bay Point relates to 190 face shields and nine gate shields located at the Oak Grove Mine that were manufactured by Zhengzhou Coal Mining Machinery (Group) Co., Ltd. ("ZMJ"), and thus will be referred to as the "ZMJ Shields." Stips. ¶ 1. The Collateral is comprised of not only the ZMJ Shields, but also their affixed electronic controls, which were manufactured by Tiefenbach Control Systems GmbH (the "Tiefenbach Controls"). Id. ¶ 3.
Seneca Coal Resources, LLC ("Seneca") purchased the ZMJ Shields new (without the controls) from ZMJ in May 2016, and they were installed at the Oak Grove Mine later that year. Id. ¶ 5; Tr. III at 79, 114–15. ZMJ had offered the ZMJ Shields to Seneca for $15,118,750 "if the purchase was completed with cash or [if it] immediately obtained third-party financing." Stips. ¶¶ 5–6. Seneca purchased 194 face shields and 10 gate shields, for a total of 204 shields. Id. ¶ 6.
As part of the purchase of the Oak Grove Mine from Mission, Murray Oak Grove and Bay Point entered into the Agreement on April 29, 2019. Id. ¶ 1. The subject of the Agreement was 190 ZMJ face shields (the "ZMJ Face Shields") and nine gate shields (the "ZMJ Gate Shields") with the Tiefenbach Controls affixed. Id. ¶¶ 1, 3. Under the Agreement, Murray Oak Grove agreed to make 43 monthly payments of $351,500, commencing June 15, 2019, and a final payment of $341,731.75 on February 15, 2023, for a total of $15,456,231.75. Id. ¶ 2. Murray Oak Grove had an option to purchase the Collateral for $1 on the due date of the final payment, and the parties have stipulated that the Agreement was a secured financing transaction rather than a true lease, id. ¶ 2, with Bay Point's having perfected a first priority security interest in the Collateral by filing a UCC-1 financing statement with the Delaware Secretary of State on May 6, 2019. Id. ¶ 3. Given that the Agreement constitutes a secured financing transaction providing for the payment of the purchase price over time, the payments in an aggregate amount of $15,456,231.75 likely would have included interest. The parties, however, have not offered any evidence quantifying the interest component of the financing arrangement.
A copy of the Agreement is included as part of Joint Exhibit XXVIII.
Seneca had purchased 194 face shields from ZMJ rather than 190. The difference in the number purchased by Murray Oak Grove is explained by the fact that four of them were abandoned in the mine as the result of adverse roof conditions, Tr. III at 31–32, apparently before the sale to Murray Oak Grove occurred. Although Seneca purchased 10 gate shields from ZMJ, the parties have stipulated that the Agreement covered only nine ZMJ Gate Shields.
The evidence demonstrates that the purchase price included the Tiefenbach Controls. Paragraph 2(a) of the Agreement defines the "Equipment" that was being purchased to mean "each item of property designated on Schedule A hereto ... together with all replacement parts, additions and accessories incorporated therein or affixed thereto." Agreement, Ex. XXVIII at 18. Schedule A to the Agreement, in turn, states that the Equipment includes "all replacement parts, additions, accessories, hardware, software and licenses required to operate the above-described longwall shields." Id. at 32. The Tiefenbach Controls are accessories to the ZMJ Shields, Tr. III at 66; they are required to operate the ZMJ Shields; and the parties have stipulated that Bay Point's security interest extends to the Tiefenbach Controls, which were "affixed to the shields" by the time the parties entered into the Agreement, Stips. ¶ 3.
As of the date of the trial, Murray Oak Grove was using 181 of the 190 ZMJ Face Shields, Stips. ¶ 7, but none of the ZMJ Gate Shields, id. ¶ 8. The parties have stipulated that the "ZMJ Shields currently in use are in good operating condition and well maintained." Id. ¶ 9. There is no evidence that the ZMJ Shields that are not being used are in anything other than good operating condition.
The useful life of longwall shields is measured in cycles, a cycle being a single instance of dropping the canopy from the roof, advancing the shield forward, and resetting the canopy against the roof. Tr. I at 165. For reasons explained later, the Court will consider 60,000 cycles to be the useful life of the ZMJ Shields. The number of cycles that the ZMJ Shields have been operated from the date of their installation at the Oak Grove Mine (when they were purchased new) through July 24, 2020 (the latest date for which a cycle count was provided by the parties) was anticipated to be 11,246. Stips. ¶ 12.
B. Summary of Testimony and Expert Reports and Findings Based on that Evidence
1. James Turner
James Turner is Murray Met's vice president of engineering. Tr. I at 38. Murray Oak Grove offered his testimony for two primary reasons. The first was to support the possibility that, after confirmation of the Plan, Hatfield might make the decision to stop using the ZMJ Shields and instead use other shields when mining begins in the southern portion of the Oak Grove Mine. Murray Oak Grove is currently mining primarily in the northern portion of the Oak Grove Mine. After the mining of that panel is completed, it will turn to another panel in the north and then to the southern portion of the Oak Grove Mine sometime in 2021. Id. at 56–62. In support of his supposition that Hatfield might decide not to use the ZMJ Shields in mining operations in the southern portion of the mine, Turner discussed the financial considerations that would counsel in favor of or against using the ZMJ Shields when mining begins in the south. Those considerations include the costs to refurbish and move in other shields, the costs that would be involved in moving the ZMJ Shields to the southern part of the mine, the delayed start date for mining in the south that such a move would entail, and the forecasted price at which the metallurgical coal mined by Murray Oak Grove could be sold during the time that mining would be halted for the move. Id. at 59–69.
The second purpose of Turner's testimony was to establish that no buyers in North America would be interested in purchasing the Collateral to use outside the Oak Grove Mine. In support of his belief that there would be no North American buyers for the ZMJ Shields, Turner testified that the specifications of longwall shields—including the height at which they are built to operate, the weight they can bear, and the length of their canopy—must be matched to the conditions of the mine in which they will be installed. Id. at 47–48, 72–73. He also described the operating height of the ZMJ Shields, id. at 48–50; their load-bearing capacity and canopy length, id. at 72–76; and the height and other conditions of North American longwall mines other than the Oak Grove Mine, id. at 70–77. According to Turner, the specifications of the ZMJ Shields would not make them suitable for use in any other mine in North America. Tr. I at 70–77.
As already noted and discussed in detail below, the valuation of the Collateral must be based on the replacement-value standard, which is used to determine the amount that Murray Oak Grove would pay to replace the Collateral with shields and controls of comparable condition. Because neither the price at which Murray Oak Grove could sell the Collateral if it were removed from the Oak Grove Mine nor Hatfield's potential decisions about how to use the Collateral in the future have any bearing on the valuation of the Collateral under the replacement-value standard, Turner's testimony concerning these matters is beside the point and therefore does not assist the Court in conducting its valuation analysis.
There are, however, two parts of Turner's testimony that do assist the Court in determining the amount that Murray Oak Grove would pay for shields and controls comparable to the Collateral. First, on cross-examination, he testified that Murray Oak Grove had analyzed before commencing its bankruptcy case what it might cost the company to replace the ZMJ Shields if they were left underground at some point rather than moved to be used at another part of the mine. Id. at 117–19. As part of that analysis, Murray Oak Grove determined that the cost of purchasing new shields from ZMJ without electric controls would cost about $21.9 million and that purchasing the controls would add an additional amount of about $3.9 million, for a total of approximately $25.8 million. Id. at 119–24; Bay Point Exs. R & S. Second, Turner offered testimony that was relevant to a potential depreciation in value of the Collateral since its purchase from Bay Point. In particular, he briefly testified that canopy pins on one of the ZMJ Shields failed after their purchase by Murray Oak Grove. Tr. I at 53–54. On cross-examination, however, Turner acknowledged that testing indicated that there were no problems with the metallurgy of the pins, that there had been no reoccurrence of any problem with pins in the ZMJ Shields, and that Murray Oak Grove would not operate the ZMJ Shields if it was unsafe to do so. Id. at 134–35.
2. Eric Koontz
Eric Koontz is Murray Oak Grove's president and general manager. Id. at 151. Koontz's testimony primarily related to two points: (1) that Murray Oak Grove is not currently using the ZMJ Gate Shields at the Oak Grove Mine; and (2) that Hatfield may opt not to use the ZMJ Face Shields after it completes operations in the northern section of the mine. Koontz testified that the ZMJ Gate Shields are not being used because their canopy length is shorter than the gate shields in Murray Oak Grove's fleet made by a competing manufacturer (Caterpillar Inc.), stating that, in his view, longer canopy length provides more protection for workers at the gate ends of the mine. Id. at 157–58. He also explained the analysis he conducted relating to the decision that Hatfield must make in the future whether to use the ZMJ Face Shields in the southern part of the mine. Id. at 173–82. But as already mentioned, and as explained in the Court's legal analysis below, under the controlling law—which requires application of the replacement-value standard—a potential decision by Hatfield not to use the Collateral for its full useful life simply has no legal relevance.
Koontz did provide a couple of pieces of testimony relating to the amount that Murray Oak Grove would need to pay for shields and controls of a condition comparable to the Collateral. He testified that the Tiefenbach Controls that are installed on the ZMJ Shields are an older generation that cannot be automated and that they thus require miners to manually push buttons to advance the shields. Id. at 158–60. No evidence, however, was presented suggesting that automated controls only became available after Murray Oak Grove purchased the Collateral from Bay Point. The older version of the controls affixed to the ZMJ Shields therefore should have been already reflected in the price that Murray Oak Grove paid for the Collateral.
Koontz also addressed in more detail the failure of canopy pins that had briefly been mentioned by Turner. According to Koontz, in 2019, the mine's roof "created an area of extreme weight" that placed "so much force on [certain of the ZMJ Shields] that [it] caused them to yield." Id. at 167–68. After the material atop these shields was cleared with the use of explosives, Murray Oak Grove resumed mining with the ZMJ Shields in place, at which point the canopy pins in one of the shields cracked, causing an almost 10-ton piece of metal to fall into the working area of the mine. Replacement pins were installed in that shield. In addition, pins in the other ZMJ Shields were inspected, and a pin in the shield adjacent to the one with the pins that had cracked was replaced due to a hairline stress fracture. Id. at 169. Koontz testified that metallurgical tests were conducted by two labs—one retained by ZMJ and the other by Murray Oak Grove, and both tests came back as satisfactory, indicating that the pins in the ZMJ Shields were free of any metallurgical defect. Id. at 169–70, 191–92. According to Koontz, there have been no further incidents related to the canopy pins, which Murray Oak Grove inspects regularly, and Murray Oak would not continue to use the ZMJ Shields if doing so presented any safety issues. Id. at 170, 192. Further, although Koontz believes that the ZMJ Shields were not properly maintained by Mission, id. at 165–66, Murray Oak Grove performed corrective work on the shields after purchasing them, and Koontz acknowledged that they are now in good condition, id. at 185, 192–93, which is consistent with the parties' stipulation that the ZMJ Shields that are currently being used are well maintained and in good operating condition, Stips. ¶ 9.
3. Adam Stump
Adam Stump, a managing director of Hilco Valuation Services, LLC ("Hilco"), provided an expert report appraising the Collateral on behalf of the Debtors that is Joint Exhibit XIV (the "Hilco Report") and a rebuttal report that is Joint Exhibit XVIII. Tr. II at 3–7. A copy of the Hilco Report is attached as Exhibit B to Joint Exhibit XIV. Id. at 4.
Mr. Stump's reports, as well as the reports of Bay Point's experts, were admitted into evidence in lieu of their direct testimony.
Stump, who has never been in a longwall mine or seen shields or other longwall mining equipment in operation, has previously appraised longwall mining equipment on only one occasion, and the purpose of that appraisal was to determine the liquidation value of the collateral. Id. at 11–14. Consistent with a liquidation valuation, Stump based his valuation of the Collateral on the amount at which the Debtors purportedly could sell it if the shields were removed from the mine. Id. at 15–17. Under this approach, "all assets are to be sold on a piecemeal basis ‘as is’ with purchasers responsible for removal of the assets from the premises at their own risk and expense." Hilco Rep. at 15; Tr. II at 15–16.
Stump testified that the Hilco Report incorrectly states that he met with used equipment dealers to determine the amount that the Collateral would bring in a sale when, in fact, he did not do so. Stump stated that he was unable to find any such dealers for used longwall shields because this type of equipment is so highly specialized. Tr. II at 5, 31–33. Further, he did not reach out to the owners of longwall mines, but instead contacted longwall shield manufacturers to determine a price at which Murray Oak Grove might be able to sell the Collateral. Id. at 33. Based on the interviews with representatives of longwall shield manufacturers (including ZMJ, id. at 35) and an interview of a re-builder of longwall shields, Stump determined that "the only buyers that could feasibly use [the Collateral] would likely be in China, Russia, Ukraine, Poland or possibly parts of Eastern Europe" and that the shipping costs involved means that "international buyers ... would only be willing to offer a very low price compared to new cost." Hilco Rep. at 11–12; see also Tr. II at 42–43. Stump concluded that the Collateral might have "scrap value" or "some recoverable components" or that there might be longwall operators that would "buy the fleet of shields for a potential rebuild." Tr. II at 41. According to the Hilco Report, the amount at which the Debtors could sell the Collateral under these circumstances is $2,985,000. Hilco Rep. at 3.
On cross-examination, Stump acknowledged that Don Simms, ZMJ's North American representative, advised him that new ZMJ shields would cost $102,000 per shield and an additional $10,000 per shield to install electric controls, for a total cost of more than $20 million. Tr. II at 36–37. When asked why he did not include this information in the Hilco Report, Stump said that he did not do so because he was not conducting a replacement-cost valuation. Id. at 38–42. And he continued to endorse his valuation of less than $3 million even though the ZMJ Shields were put into service about three years ago, have a low cycle count, and today would cost more than $20 million to replace with electronic controls included. Id. at 41. Even if the price that Murray Oak Grove could sell the Collateral for was were only $2.9 million, the Hilco valuation nonetheless must be rejected because the Collateral's replacement value, rather than the price at which the Debtors could sell the Collateral, is the correct measure of its value under the circumstances of this case.
Although Stump did not value the Collateral using the appropriate replacement-value standard, he explained that if such a valuation were conducted then the cost to purchase replacement shields and electronic controls new must be reduced by three types of depreciation: physical deterioration, functional obsolescence and economic obsolescence. Id. at 29–30, 57–58. The Hilco Report provided a definition of each of these three types of depreciation:
Physical Deterioration: A form of depreciation where the loss in value or usefulness of an asset is attributable solely to physical causes such as wear and tear and exposure to the elements.
Functional Obsolescence: A form of depreciation where the loss in value is due to factors inherent in the property
itself and due to changes in design or process resulting in inadequacy, overcapacity, excess construction, lack of functional utility, or excess operation costs.
Economic Obsolescence: A form of depreciation or loss in value caused by unfavorable external conditions. These can include such things as the economics of the industry, availability of financing, loss of material and labor sources, passage of new legislation, and changes in ordinances.
Hilco Rep. at 16.
Stump contends that Bay Point's experts failed to take functional and economic obsolescence into account. Hilco Rebuttal Report at 13–14. He also argues that they improperly used straight-line depreciation instead of accelerated depreciation, contending that use of an accelerated deprecation curve better reflects the notion that assets depreciate more quickly at the beginning of their useful life. Tr. II at 46–47; Stump Rebuttal Report at 12. But he conceded that the use of an accelerated depreciation curve is based on the idea that useful life is tied to the age of equipment whereas the useful life of longwall shields is measured in cycles rather than years. Stump also conceded that he is not aware of an accelerated depreciation curve having been applied in the context of the valuation of longwall shields. Tr. II at 46–47. Furthermore, even if the application of an accelerated depreciation curve were appropriate here, there is no evidence that the depreciation of the Collateral would still be accelerated at this point. Stump's own testimony supports a replacement cost new of more than $20 million. Murray Oak Grove agreed to pay approximately $15.4 million, including interest, in April 2019. The substantial difference between the replacement cost new and the price that Murray Oak Grove paid for the Collateral suggests that any accelerated depreciation that should be applied here has already occurred.
Finally, Stump took the position that the valuation of the Collateral should be reduced to reflect the possibility that the ZMJ Shields might not be used in the Oak Grove Mine for their entire useful life. Stump Rebuttal Report at 8–12. As explained below, however, it is not appropriate to reduce the valuation of the Collateral based on the possibility that the decision might be made to stop using the Collateral at some point post-confirmation.
4. John Startin
John Startin, a senior managing director of Evercore, LLC (the Debtors' investment banker), was responsible for leading the team that marketed the Debtors' assets both before and during the bankruptcy. Tr. II at 59, 62. After contacting almost 90 companies before the Petition Date, Evercore received an indication in January 2020 that Warrior Met Coal, Inc. would be willing to serve as a stalking horse bidder and assume certain liabilities while paying $20 million of cash in a Chapter 11 case for Murray Oak Grove. Id. at 69–70. That proposal "was viewed as not being as high as the company thought it might be, and so it didn't go anywhere." Id. at 70. After the Petition Date, in April 2020, Startin circulated a marketing report to prospective bidders for a possible sale of the Debtors' assets. Id. at 71–72, 93. Two prospective bidders signed asset purchase agreements for Oak Grove: the stalking horse bidder and a company known as Sev.en Energy AG, a Czech Republic company that has purchased metallurgical coal assets in the United States during the last year. Id. at 73. As consideration for the purchase of substantially all the assets of Murray Oak Grove, Sev.en Energy offered to assume certain liabilities, pay certain cure costs, make payments under a $50 million promissory note tied to the future performance of the business, and pay cash in the amount of $20 million. Id. at 77–79. The point that Murray Oak Grove's counsel made based on this testimony was that the valuation of the Collateral should reflect the fact that Warrior and Sev.en Energy offered only $20 million of cash for the assets of Murray Oak Grove. As explained in the Court's legal analysis below, however, the $20 million of cash offered by Warrior and Sev.en Energy does not come close to reflecting the full going concern value of Murray Oak Grove and thus is not the right metric for calculating the value of the Collateral.
5. Mark Bartkoski
Mark Bartkoski, the owner of mining consultancy company Integrity Development Consultants, Inc., provided an expert report appraising the Collateral on behalf of Bay Point that is Joint Exhibit XV (the "Bartkoski Report") and a rebuttal report that is Joint Exhibit XIX. Tr. III at 13, 87–89. Bartkoski has two mining engineering degrees and over 40 years of experience in the mining industry, including more than 11 years spent managing longwall mining operations. Bartkoski Rep. at 1. He worked at the Oak Grove Mine for two months in 2016, and during that time he was involved in the design of the ZMJ Shields and Seneca's possible purchase of them from ZMJ. Tr. III at 52–53; Bartkoski Rep. at 1. Further, he toured the Oak Grove Mine in preparation for his appraisal. Bartkoski Rep. at 1.
As part of his testimony, Bartkoski clarified that the maximum operating height of the ZMJ Shields is 96 inches rather than the 98 inches stated in the Bartkoski Report. Tr. III at 13.
Bartkoski values the Collateral at $13.6 million. Bartkoski Rep. at 5. In arriving at this valuation, he started with $16 million, which is the sum of: (a) $15 million, the purchase price that he estimated that Seneca paid ZMJ for the ZMJ Shields (without electronic controls) in 2016 and (2) $1 million for used Tiefenbach electronic controls like the ones on the ZMJ Shields. Bartkoski Rep. at 5; Tr. III at 51–53, 64–65. Bartkoski arrived at the $15 million figure based on his involvement in the negotiations over the purchase of the ZMJ Shields, his understanding being that ZMJ initially sought more than $30 million for the ZMJ Shields but that the price ultimately was reduced by a little over 50%. Bartkoski Rep. at 5; Tr. III at 51–53. Bartkoski testified that he believed it was "reasonable" and "fairer" to start with a value reflecting the actual recent purchase price of the ZMJ Shields rather than the cost to purchase new shields and electronic controls. Tr. III at 55. And he explained that his use of straight-line depreciation rather than accelerated depreciation was justified in light of a starting point for the valuation that reflected an actual purchase rather that the amount ZMJ stated it would charge for new shields and controls. Id. at 85–87. Further, he considered the $1 million estimate for the cost of controls manufactured by Tiefenbach to be conservative. Bartkoski Rep. at 5. Bartkoski analyzed five factors to determine the amount by which his $16 million starting point should be reduced. First, based on his experience at the Oak Grove Mine in 2016 and his recent tour of the mine, he concluded that its "very mild normal operating conditions" would have resulted in "minimized wear rates on the longwall shields," leading him to make no reduction for this factor. Id. at 3. He then considered statements made by employees of Murray Oak Grove supporting the view that the maintenance of the ZMJ Shields was such that there would not have been any negative effect on the useful life of the shields, meaning that he again saw no need for a reduction in value. Id. He also took into account the design of the ZMJ Shields, including their operating range, and vertical load capacity, which he viewed as "very good," another factor he believed warranted no reduction in value. Id. Bartkoski likewise deemed no reduction to be appropriate based on ZMJ's manufacturing, testing and quality control, which he described as "among the best." Id. at 4. To underscore this point, Bartoski noted that Murray Energy had purchased two sets of shields manufactured by ZMJ since they bought the ZMJ Shields from Bay Point in April 2019. Id. The only reduction that Bartkoski made from his $16 million starting point was for the number of cycles on the ZMJ Shields. Using 75,000 cycles as the useful life of the ZMJ Shields and 11,000 as the estimated number of cycles on them as of July 2020, Bartkoski determined that the ZMJ Shields would have approximately 85% of their useful life remaining as of July 2020. Id. at 4. His valuation of $13.6 million is the product of $16 million multiplied by 85%. Id. at 5; Tr. III at 53–54.
The $15 million amount is in fact close to the amount ($15,118,750) that Seneca would have paid ZMJ for the ZMJ Shields (without electronic controls) in 2016 if it had paid in cash. Stips. ¶ 5.
Bartkoski testified that the cost of new ZMJ shields with electronic controls manufactured by Caterpillar would be $24 million and $1.5 to $2 million less, or $22 million to $22.5 million, for new shields outfitted with controls manufactured by Tiefenbach. Tr. III at 77–78.
Bartkoski testified that if the Collateral were removed from the mine and sold then it might bring anywhere from $5 million to $8 million, with China being a likely market in which the Collateral could be sold. Tr. III at 35–38.
While the Court finds Bartoski's replacement-value analysis to be persuasive, a couple of reductions must be made to his final value. First, a reduction is warranted based on the useful life of the ZMJ Shields and the cycle count to which the parties have stipulated. According to Bartkoski, shields that were manufactured in the last 10 years are of such quality that they should be able to operate for 75,000 cycles plus or minus 20% depending on the condition of the mine and the manner in which they were operated. Tr. III at 47–48. He used 75,000 cycles as the useful life of the ZMJ Shields based on his view of the conditions in the Oak Grove Mine. Id. at 48. The Court, however, cannot ignore the roof conditions that caused the loss of four shields on one occasion and resulted in cracks in canopy pins on four other shields and "high vertical stresses" on at least 15 of the ZMJ Shields on another occasion. Bartkoski Rep. at 3 ¶ 32. Indeed, in explaining why, unlike Koontz, he prefers the ZMJ Gate Shields to a competitor's shields for use in the Oak Grove Mine, Bartkoski stated that the ZMJ Gate Shields have more than 20% greater holding strength than the competitor's gate shields, a quality that Bartkoski viewed as important "when it comes to sustaining adverse roof conditions, which has been seen ... in Alabama mines, as well as Oak Grove." Tr. III at 84. Based on the events involving adverse roof conditions at the Oak Grove Mine that have placed the ZMJ Shields under stress in the past, and given the possibility that such adverse conditions might place stress on the shields in the future, the Court finds that Bartkoski's proposed useful life of 75,000 cycles should be reduced by 20% to 60,000. Indeed, Bay Point's counsel stated in closing argument that the ZMJ Shields "have a useful life of 60,000 cycles." Id. at 164. The Court therefore will use 60,000 cycles as the useful life of the ZMJ Shields. The latest cycle count to which the parties have stipulated is 11,246 as of July 24, 2020. Stips. ¶ 12. The 11,246 cycle count divided by 60,000 cycles is 0.1874, or 18.74%, which means that the ZMJ Shields have about 81.26% of their useful life remaining. Bartkoski's starting point of $16 million multiplied by 81.26% is $13,001,600.
This valuation must be further reduced to take into account the four face shields that were lost before Murray Oak Grove purchased the ZMJ Shields from Bay Point and the fact that Seneca purchased 10 gate shields but the parties have stipulated that Murray Oak Grove purchased only nine. Because Bartkoski's valuation is based on the 2016 purchase price of the ZMJ Shields, and because that purchase included 204 shields, id. ¶ 6, he included the value of the four ZMJ Face Shields that had been abandoned in the Oak Grove Mine. Tr. III at 56. He also included 10 ZMJ Gate Shields, Bartkoski Rep. at 2, ¶ 17, but the parties have stipulated that the Agreement covered only nine ZMJ Gate Shields, Stips. ¶ 1. Bartkoski's valuation of the Collateral therefore must be adjusted downward to reflect the purchase price for 199 shields rather than 204. After this reduction, the value of the Collateral based on the methodology employed by Bartkoski, as adjusted by the Court, is $12,682,933.
As noted above, these four shields were lost before Murray Oak Grove purchased the ZMJ Shields in 2019. Bartkoski made clear that the four shields were lost in an incident that occurred before the event in 2019 that caused damage to the canopy pins on certain of the ZMJ Shields. See Bartkoski Rep. at 2 ¶ 18 ("Of the new 204 LW shields, four have been lost due to bad roof conditions"); id. at 3 ¶ 32 ("Murray management reported another roof pressure situation, other than the one resulting in the loss of four shields (see #18), where 15 shields were subject to high vertical stresses for a short distance.... Four of the affected shields had some pin replacements, but Murray personnel stated they were in good working order after those repairs were made.").
This amount is arrived at by dividing $13,001,600 (Bartoski's value as adjusted by the Court to account for a 60,000-cycle useful life for the shields) by 204 (the total number of shields that Seneca bought from ZMJ in 2016) and then multiplying the quotient—$63, 733.33—by 199 (the total number of shields that Murray Oak Grove purchased from Bay Point in 2019). No adjustment is being made for any difference in price between gate shields and face shields because the Hilco Report assigned the same value to each type of shield, Hilco Rep. at 3, and the "Boyd Report" discussed below identifies a relatively insignificant greater value (about $5,000) for gate shields than face shields, Boyd Rep. at 13.
6. Ronald Lewis
Ronald Lewis, the managing director and chief operating officer of the mining consultancy firm John T. Boyd Company ("Boyd"), provided an expert report appraising the Collateral on behalf of Bay Point that is Joint Exhibit XVI (the "Boyd Report") and a rebuttal report that is Joint Exhibit XX. Tr. III at 90–91, 126–27; Boyd Rep. at 16. To assist him in preparing the Boyd Report, personnel from Boyd visited the Oak Grove Mine to view the ZMJ Shields in operation. Boyd Rep. at 2, 16.
The Boyd Report uses the depreciated replacement value method of valuing the Collateral, which is "[b]ased on the current value of the [Collateral] to the ongoing mining operation" and is "calculated by multiplying the current (new) cost of [the Collateral] installed and operating by its remaining life over useful life expressed as a percentage." Id. at 14; Tr. III at 92–93. In calculating the price that Murray Oak Grove would pay for new shields and controls as replacements for the Collateral, Boyd considered two sources: "(1) original purchase price of the [ZMJ Shields] on May 4, 2016, escalated to February 2020, of $89,601 [per shield], and (2) Monongalia County Mine purchase price for ZMJ shields in 2019 for an average of $115,792 per shield." Boyd Rep. at 14. Boyd discounted the value of the price paid for shields at the Monongalia County Mine "by 25% as an allowance for technology upgrades and as a price variation contingency," thereby obtaining a value of $86,844 per shield. Id. It used the lower value of $86,844 per shield and added $10,000 for the cost of refurbished Tiefenbach electric controls, resulting in a total price of $96,844 per ZMJ Shield, which was multiplied by 199 to arrive at a replacement cost new of $19,271,956. Id. at 14–15. Boyd also added $1.85 million for installation costs to arrive at a replacement cost of $21,121,956. Id. Then, using 66,000 cycles as the useful life of the ZMJ Shields and a cycle count of 9,302 cycles as of February 11, 2020, Boyd determined that the ZMJ Shields had 85.9% of their useful life remaining. Boyd's valuation for the Collateral of $18,143,760 installed underground is the product of $21,121,956 multiplied by 85.9%. Id. at 15. Lewis testified that the costs of installation were borne by Seneca when it purchased the ZMJ Shields in 2016 and that installation costs are typically not part of the purchase price for shields. Tr. III at 117–18. The Court concludes that this means that the costs of installation should not be included in the calculation of the replacement cost new. Even without the costs of installation, however, Boyd's depreciated replacement value of the Collateral is $16,554,610, Boyd Rep. at 15, which is more than Murray Oak Grove paid for the Collateral just over a year ago.
In response to several questions from the Court, Lewis provided testimony relevant to Stump's critique of Bay Point's approach to valuation. He testified that the use of straight-line depreciation was proper because the useful life of longwall shields is measured not in years, but in the number of cycles they have been operated, so that shields, unlike vehicles that depreciate quickly after they are purchased new, do not depreciate in such an accelerated fashion. Tr. III at 124–25. Citing the definitions of functional obsolescence contained in the Hilco Report, the Court asked Lewis to address Stump's primary critique of the Boyd Report, namely that it failed to take those forms of obsolescence into account in valuing the Collateral. Tr. III at 118. As for functional obsolescence, Lewis pointed out that the ZMJ Shields are "relatively new" and that "there's not been any major technology changes" in shields since the ZMJ Shields were manufactured. Id. at 122. And in responding to the Court's questions regarding economic obsolescence, Lewis testified that the Oak Grove Mine is "producing premium quality metallurgical coal," which is "one commodity in coal which is still very much in demand," meaning that "there's not going to be a market change per se for demand." Id. at 122–23. According to Lewis, although there will be volatility in the price of metallurgical coal going forward, longwall operators like Murray Oak Grove will be "economically competitive, even in times of market downturn," because "longwall systems [provide] the lowest operating cost available," meaning that "the last survivor" in the coal mining industry will be longwall mines. Id. at 123. Based on this testimony, the Court concludes that no deductions in the value of the Collateral should be made for functional or economic obsolescence. V. Legal Analysis
The value of the Collateral establishes the amount of Bay Point's secured claim under § 506(a) of the Bankruptcy Code, which provides that
[a]n allowed claim of a creditor secured by a lien on property in which the estate has an interest ... is a secured claim to the extent of the value of such creditor's interest in the estate's interest in such property ... and is an unsecured claim to the extent that the value of such creditor's interest ... is less than the amount of such allowed claim. Such value shall be determined in light of the purpose of the valuation and of the proposed disposition or use of such property, and in conjunction with any hearing on such disposition or use or on a plan affecting such creditor's interest.
The proper application of this provision was the subject of the Supreme Court's decision in Associates Commercial Corp. v. Rash , 520 U.S. 953, 117 S.Ct. 1879, 138 L.Ed.2d 148 (1997). Rash involved a claim secured by a tractor truck that the Chapter 13 debtor intended to retain and use in his freight-hauling business. His Chapter 13 plan proposed to "cram down" the amount of the creditor's secured claim to the value of the truck under § 1325(a)(5)(B) of the Bankruptcy Code. As the Court explained, § 1325(a)(5)(B) permits the debtor to "keep the property over the objection of the creditor [so long as] the creditor retains the lien securing the claim." Rash , 520 U.S. at 957, 117 S.Ct. 1879. In exchange for the retention of the collateral, "the debtor is required to provide the creditor with payments, over the life of the plan, that will total the present value of the allowed secured claim, i.e. , the present value of the collateral, [with] [t]he value of the allowed secured claim ... governed by § 506(a) of the Code." Id.
According to Rash , § 506(a) makes clear that the issue of "paramount importance to the valuation question" is "the proposed disposition or use of such property." Id. at 961–62, 117 S.Ct. 1879. As the Supreme Court noted, the two possible dispositions or uses that a debtor may make of property under § 1325(a)(5) are "surrender[ing] the collateral to the creditor ... or, under the cram down option [that Rash was proposing] keep[ing] the collateral." Id. ; see also HSBC Bank USA v. UAL Corp. (In re UAL Corp.) , 351 B.R. 916, 921 (Bankr. N.D. Ill. 2006) ("When the Court [in Rash ] spoke of valuing collateral according to the debtor's ‘proposed ... use,’ it was distinguishing between retention and surrender ....").
The Supreme Court also identified three potential valuation standards that had been used by various circuits in the cram-down context: "(1) what the secured creditor could obtain through foreclosure sale of the property (the ‘foreclosure-value’ standard); (2) what the debtor would have to pay for comparable property (the ‘replacement-value’ standard); and (3) the midpoint between these two measurements." Rash , 520 U.S. at 955–56, 117 S.Ct. 1879. In Rash , the Fifth Circuit had adopted the debtor's proposed foreclosure value of "what the creditor could realize if it sold the estate's interest in the property ... through ‘repossess[ing] and sell[ing] the collateral,’ " a value that is typically lower than the amount a debtor would have to pay to replace the vehicle with a comparable one. Id. at 960, 117 S.Ct. 1879.
The Supreme Court reversed the Fifth Circuit, rejecting the foreclosure-value standard as failing to acknowledge the fact that the creditor was not being permitted to repossess and sell the collateral. According to the Court, "[a]pplying a foreclosure-value standard when the cram down option is invoked attributes no significance to the different consequences of the debtor's choice to surrender the property or retain it." Id. at 962, 117 S.Ct. 1879. In other words, § 506(a)'s use of the phrase "disposition or use" signified for the Rash court that the valuation standard should depend on whether the debtor proposed to surrender or retain the collateral. The foreclosure-value standard applies "[w]hen a debtor surrenders the property," because the "creditor obtains it immediately, and is free to sell it and reinvest the proceeds." Id.
If the debtor retains rather than surrenders the collateral, however, then " § 506(a) directs application of the replacement-value standard." Id. at 956, 117 S.Ct. 1879. The Court's rationale for the replacement-value standard in the context of the retention of collateral was that "[i]f a debtor keeps the property and continues to use it, the creditor obtains at once neither the property nor its value and is exposed to double risks: The debtor may again default and the property may deteriorate from extended use." Id. at 962, 117 S.Ct. 1879. The Court described the replacement-value standard throughout the opinion in various ways: (1) "what the debtor would have to pay for comparable property," id. at 955, 117 S.Ct. 1879 ; (2) the "price a willing buyer in the debtor's trade, business, or situation would pay to obtain like property from a willing seller," id. at 960, 117 S.Ct. 1879 ; (3) "the cost the debtor would incur to obtain a like asset for the same ‘proposed ... use,’ " id. at 965, 117 S.Ct. 1879 ; and (4) "the price a willing buyer in the debtor's trade, business, or situation would pay a willing seller to obtain property of like age and condition," id. at 959, 117 S.Ct. 1879 n.2.
Taken together, the Court's formulations of the replacement-value standard distill to this: the replacement value of collateral that the debtor is retaining is the amount that the debtor or other entity in the debtor's trade, business, or situation would need to pay a willing seller for comparable property. The Supreme Court held that the replacement-value standard "leaves to bankruptcy courts, as triers of fact, identification of the best way of ascertaining replacement value on the basis of the evidence presented." Id. at 965, 117 S.Ct. 1879 n.6. The Court also pointed out that "[w]hether replacement value is the equivalent of retail value, wholesale value, or some other value will depend on the type of debtor and the nature of the property." Id. That is, "in employing replacement value, the Court recognized that different debtors might be able to procure a ‘like property’ replacement in different markets, at different prices." UAL , 351 B.R. at 921. And "the Court's reference to what ‘a willing buyer in the debtor's trade, business, or situation would pay’ relates to the market available to that particular debtor." Id.
Although Rash was decided in the context of a Chapter 13 case, courts consistently have held that its rationale is equally applicable in Chapter 11. See, e.g. , In re Heritage Highgate, Inc. , 679 F.3d 132, 141 (3d Cir. 2012) ("Courts have recognized that [ Rash 's ] reasoning applies with equal force in the Chapter 11 reorganization context."); In re Creekside Sr. Apartments, LP , 477 B.R. 40, 55 (B.A.P. 6th Cir. 2012) ("Although Rash was decided in the context of Chapter 13, its holding applies equally to valuation of secured claims in Chapter 11."); In re Motors Liquidation Co. , 482 B.R. 485, 492 (Bankr. S.D.N.Y. 2012) (" Motors Liquidation I ") (noting that "[p]ost-Rash case law suggests that Rash can be applied to the provisions of all three reorganization chapters—11, 12, and 13—because these chapters all treat secured claims similarly."); Motors Liquidation Co. Avoidance Action Tr. v. JPMorgan Chase Bank, N.A. (In re Motors Liquidation Co.) , 576 B.R. 325, 424 (Bankr. S.D.N.Y. 2017) (" Motors Liquidation II ") ("Although Rash was decided in the context of a chapter 13 plan, the Court finds that the Supreme Court's emphasis on the actual disposition of the property, rather than a hypothetical outcome, [is] applicable here."); Official Comm. of Unsecured Creditors v. UMB Bank, N.A. (In re Residential Capital, LLC) , 501 B.R. 549, 592 (Bankr. S.D.N.Y. 2013) ("Although this case involves the consensual use of collateral in the context of a sale under chapter 11, the reasoning of Rash is equally applicable here.").
Further, the principles set forth in Rash apply even though the entity that will be retaining the collateral is the purchaser of the debtor's assets. See Motors Liquidation II , 576 B.R. at 423–24 (holding that the replacement-value standard applied to the valuation of assets that had been sold as part of a going-concern business in a Chapter 11 case); Weinman v. City of Pueblo (In re Adam Aircraft Indus., Inc.) , No. 12-CV-01573-CMA, 2013 WL 773044, at *6 (D. Colo. Feb. 28, 2013) (holding, in a case involving the Chapter 7 trustee's sale of substantially all the assets of the debtor as a going concern, that the replacement-value standard applies because "[a]lthough the Debtor in this case did not retain the property for itself, this is a distinction without any meaningful significance in this case because ‘nothing in the Rash ... decision[ ], or in [§] 506(a), limits the application of "the proposed disposition or use" of collateral to the debtor's proposed use or disposition’ " (quoting Clarkeies Mkt., L.L.C. v. Kelley's Food Town, Inc. (In re Clarkeies Mkt., L.L.C.) , No. 01-10700-JMD, 2002 WL 31317242, at *4 (Bankr. D.N.H. Sept. 26, 2002) ) (emphasis added)).
Rash is particularly relevant to the valuation of the Collateral in this Chapter 11 case because of the way in which the Debtors are cramming down Bay Point's claim. The Supreme Court held in Rash that the replacement-value standard applied in that case because the debtor had "exercised the § 1325(a)(5)(B) ‘cram down’ option." Rash , 520 U.S. at 965, 117 S.Ct. 1879. Here, the Debtors are treating Bay Point's secured claim in a manner that is identical in every relevant respect to the way in which the creditor's secured claim in Rash was treated under § 1325(a)(5)(B). Under the Chapter 13 plan in Rash , the secured creditor retained the lien securing its claim until the payment of the allowed secured claim in an amount determined by the value of the collateral under § 506(a)(1). Likewise under the Plan, which provides that Bay Point's claim will continue to be secured by a lien on the Collateral and that Bay Point will receive deferred cash payments in an amount that is determined by the value of the Collateral under § 506(a)(1). Disclosure Statement at 8, 35. There is nothing in Rash or the Bankruptcy Code suggesting that the replacement-value standard would not apply under these circumstances merely because the Collateral is being sold.
Indeed, applying Rash in the context of an asset sale makes perfect sense given the Supreme Court's rationale for adopting the replacement-value standard in that case. As the Supreme Court stated, "[w]hen a debtor surrenders the property, a creditor obtains it immediately, and is free to sell it and reinvest the proceeds." Rash , 520 U.S. at 962, 117 S.Ct. 1879. On the other hand, "[i]f a debtor keeps the property and continues to use it, the creditor obtains at once neither the property nor its value and is exposed to double risks: The debtor may again default and the property may deteriorate from extended use." Id. Those very same risks apply when, as here, it is the purchaser of substantially all the debtor's assets that is retaining the collateral and thus preventing its surrender to the creditor.
Despite all this, Murray Oak Grove contends that the principles enunciated in Rash do not apply here because the Debtors are selling the Collateral as part of the sale of substantially all of the assets of Murray Oak Grove. Based solely on the asset sale, Murray Oak Grove asks the Court to eschew the replacement-value standard for one that would value the Collateral at the amount for which it could be sold if it were removed from the Oak Grove Mine, with the only likely buyers being mining companies overseas. Murray Oak Grove contends that this is the "going concern" value of the Collateral. Tr. III at 146–47. But the price at which the Collateral could be sold if it were removed from the mine and sold (whether to buyers overseas or in the United States) is decidedly not a going concern value. A going concern fair market value is one that acknowledges that the Collateral will remain in place at the Oak Grove Mine, where the purchaser of Murray Oak Grove's assets will continue to operate the business by mining coal.
By contrast, application of Murray Oak Grove's proposed method of valuation would result in a liquidation value for the Collateral. The only argument that Murray Oak Grove makes for why application of its valuation method would not lead to a liquidation value is that Murray Oak Grove is not deducting the costs of sale from its valuation. Id. at 151. But even if costs of sale should be included in a liquidation valuation, the fact that Murray Oak Grove's expert witness chose not to deduct them means only that his valuation is an incomplete liquidation valuation, not a going concern valuation.
During closing argument, counsel for Murray Oak Grove asked "what's the fair market value [of the Collateral]?" and then stated that he "think[s] the only real statements we have about fair market value, frankly, came from Mr. Bartkoski, and they're helpful to us, and Mr. Stump, because Mr. Bartkoski's estimate was ... ‘what we would get for these shields if we sold them’ ... [a]nd he was being perfectly candid back in January before all of the bad things that happened that we're living through today .... There's your fair market value assessment." Tr. III at 157–58. Counsel recognized that Mr. Bartkoski found that the price Murray Oak Grove could obtain for the Collateral if it were sold could be about $7 million, id. at 180, which is far higher than the valuation proposed by Murray Oak Grove.
Whether incomplete or not, Murray Oak Grove's proposed valuation method is, at the very least, a step in the application of the valuation standard adopted by the Fifth Circuit—"what the creditor could realize if it sold the estate's interest in the property ... through repossessing and selling the collateral," Rash , 520 U.S. at 960, 117 S.Ct. 1879 —that the Supreme Court flatly rejected in Rash . Although Murray Oak Grove's valuation might "demonstrate a lack of value of [Murray Oak Grove's] interest in the [Collateral] to others," it does not establish the replacement cost for Murray Oak Grove, which is the relevant benchmark. In re Murray , 318 B.R. 211, 215–16 (Bankr. M.D. Fla. 2004).
The cases on which Murray Oak Grove relies— Polk Lending 33, LLC v. THL Corporate Fin. Inc. (In re Aerogroup Int'l, Inc.) , 601 B.R. 571 (Bankr. D. Del. 2019) ; Motors Liquidation I , 482 B.R. 485 ; In re LTV Steel Co. , 285 B.R. 259 (Bankr. N.D. Ohio 2002) ; and In re Wendy's Food Sys., Inc. , 82 B.R. 898 (Bankr. S.D. Ohio 1988) —are not inconsistent with the application of the replacement-value standard to determine the value of the Collateral. In Motors Liquidation I , a decision from the General Motors bankruptcy, the dispute was between New GM (the purchaser of most of the debtors' assets) and secured creditors known as the TPC Lenders, which before the sale had held liens on the debtors' transmission manufacturing plant and a service parts distribution center. See Motors Liquidation I , 482 B.R. at 486–87. The TPC Lenders sought a valuation of their collateral in accordance with the order approving the sale of substantially all of Old GM's assets, which would "determine the extent to which [the TPC Lenders were] entitled to payment in cash, in contrast to New GM securities." Id. at 486. New GM argued for a "fair market" method of valuation that would derive the price that would be obtained in an arm's-length transaction in the open market, while the TPC Lenders endorsed a "value in use" method that valued the collateral based on its being "part of an integrated ... operation." Id. at 486, 493–94.
In concluding that the "value in use" standard did not apply, the court began by distinguishing Rash . It noted that the debtor's use of the truck in that case "required the secured creditor to continue holding a lien," identifying this as one reason the Supreme Court ruled that the replacement-value standard applied in Rash . Id. at 492. The lenders in Motors Liquidation I , however, had a lien on the proceeds of the asset sale, not on the collateral that had been sold. Id. at 487–88. And the parties had agreed to a provision in the sale order under which the TPC Lenders had an allowed secured claim in an amount "equal to the fair market value" of the collateral as of the commencement of the debtor's bankruptcy cases. Id. at 487. After recognizing that Rash generally applies in Chapter 11, the Motors Liquidation I court stated that Rash had "no material significance in this case, because its facts are so distinguishable from those here." Id. at 492. The facts that distinguished Rash , according to the Motors Liquidation I court, were not only that the assets of the debtor had been sold and that the TPC Lenders had agreed to the sale, but also that the lenders, "unlike the secured creditor in Rash , did not retain their liens" on the collateral—the very factor the court had earlier identified as a basis for the Supreme Court's adoption of the replacement-value standard in Rash . Id. Here, the Plan proposes that Bay Point will be paid over time from the profits of the business in accordance with a note secured by the Collateral. And for this reason, Motors Liquidation I is inapposite. So too are the other decisions Murray Oak Grove relies on in which the creditors were not being paid by means of a note secured by their collateral. Aerogroup Int'l , 601 B.R. at 575 & n.5 ; LTV Steel , 285 B.R. at 268 ; Wendy's Food Sys. , 82 B.R. at 900. Moreover, unlike Motors Liquidation I , Wendy's Food Systems applied a "going concern value" that it characterized as an "in-place" value that was about five times the liquidation value. Wendy's Food Sys. , 82 B.R. at 900. Thus, Wendy's Food Systems is inconsistent with Murray Oak Grove's proposed valuation based on the price the Collateral would bring if it were removed from the mine. In sum, the decisions on which Murray Oak Grove relies are not applicable here given that, as in Rash , Bay Point will continue to have a lien on the Collateral, making the method by which its claim is being crammed down identical in every material way to the mechanism used to cram down the creditor's claim in Rash .
The Court must address another point before turning to the precise method it will employ to determine the value of the Collateral. During the trial, Murray Oak Grove presented evidence suggesting that it might use the Collateral for less than its remaining useful life, and it also offered evidence showing, as the parties later stipulated, that the Debtors are not using some of the ZMJ Face Shields and are using none of the ZMJ Gate Shields. Counsel for Murray Oak Grove referred to that evidence in his closing argument, criticizing Bay Point's experts for not taking into account Oak Grove's non-use and possible future non-use of the Collateral. Tr. III at 158–59. All that, however, is beside the point. Because the Collateral is not being surrendered to Bay Point, the fact that Hatfield may choose not to use it for its full useful life—or may opt in the future to forego using it altogether—makes no difference to the valuation under § 506(a)(1). Nothing in the Bankruptcy Code or Rash contemplates a reduced valuation based on an argument that the debtor might use collateral only to a limited extent or for a particular period of time, or would be able to operate with collateral of a lesser value than the value of the collateral securing the claim at issue. For "when the Court [in Rash ] spoke of valuing collateral according to the debtor's ‘proposed ... use,’ it was distinguishing between retention and surrender, not requiring valuation based on a proposed suboptimal use." UAL , 351 B.R. at 921.
The UAL decision is instructive because in that case the court rejected an argument akin to that being asserted by Murray Oak Grove here. There, the debtor, United Airlines, was the lessee of real property at the San Francisco International Airport ("SFO"). The other party to the dispute, HSBC Bank USA Corp., was the indenture trustee for bondholders whose claims against United were secured by liens on United's leasehold of a portion of the SFO real estate known as the Maintenance Operations Center (the "MOC"). HSBC brought a complaint to determine the value of the MOC for purposes of establishing the amount of its secured claim under § 506(a). The UAL court began its analysis by noting that Rash "dealt with fungible property ... traded in used-vehicle markets" and that "[w]ith this sort of fungibility, valuing ‘like property’ is a relatively straightforward fact-finding endeavor." UAL , 351 B.R. at 920–21. But the UAL court pointed out that "[w]hen collateral is not fungible, there is no readily accessible market price, and the value of ‘like property’ can only be measured by comparison to transactions involving similar properties, with adjustments for whatever relevant differences exist between the collateral and its comparables." Id. at 920. HSBC and United agreed that comparable properties should be used in the valuation but disagreed about which properties were comparable. HSBC argued for a similar facility in the same location as the MOC. United, however, argued that location was irrelevant because the tasks that it proposed to actually perform at the MOC going forward could be performed at airports in other states, rendering irrelevant the value, if any, attributable to the MOC's location at SFO. Rejecting United's position, the bankruptcy court reasoned that location is not irrelevant to the valuation of real estate and holding that "if the location of HSBC's collateral provides value that United does not need, that value must nevertheless be considered in assessing what the collateral is worth." Id. Equally true here, where the ZMJ Gate Shields and the ZMJ Face Shields that are not being used (and the shields that might be used for less than their useful life) may well provide utility that Murray Oak Grove does not presently need—or may in the future not need—but that must still be included in the valuation analysis given that all of the Collateral is being retained.
The UAL court analogized United's position to that of a hypothetical Chapter 13 debtor who had used a semi-truck for business but now intends to use it only to transport the debtor's children to school and thus argues that the truck should be valued for plan purposes based on the value of a much cheaper type of vehicle that could be used to ferry the children. The court found no difference between United's position and that of its hypothetical Chapter 13 debtor. Further, it concluded that the position that " ‘like property’ is the least expensive substitute able to meet the debtor's needs produces absurdity" and was "not the holding of Rash ." Id. at 920. Here, it would be equally absurd and contrary to Rash for the Court to value the Collateral—which will not be surrendered to Bay Point—as though Murray Oak Grove was surrendering it. And that is precisely what the Court would be doing if it were to reduce the value of the Collateral merely because Murray Oak Grove is not actually using all of it and might use it in the future for less than its useful life. The replacement-valuation standard must be applied in this case in such a way that it determines the amount that Murray Oak Grove would need to pay a willing seller for comparable property taking into consideration the value of all of the Collateral.
Having determined that the replacement-valuation standard applies and that it should be utilized to determine the value of the Collateral in its entirety, the next issue the Court must decide is the best way to determine replacement value of the Collateral—i.e., the amount that Murray Oak Grove would need to pay a willing seller for longwall shields and electronics of a condition comparable to the Collateral. The Supreme Court noted in Rash that the replacement-value standard "leaves to bankruptcy courts, as triers of fact, identification of the best way of ascertaining replacement value on the basis of the evidence presented." Rash , 520 U.S. at 965 n.6, 117 S.Ct. 1879. And under Rash , "[w]hether replacement value is the equivalent of retail value, wholesale value, or some other value will depend on the type of debtor and the nature of the property." Id. at 965 n.6, 117 S.Ct. 1879 ; see also In re Heritage Highgate, Inc. , 679 F.3d 132, 141 (3d Cir. 2012) ("Congress envisioned a flexible approach to valuation whereby bankruptcy courts would choose the standard that best fits the circumstances of a particular case."). The Court accordingly must determine the best method for arriving at the replacement-value of the Collateral based on the evidence presented.
Because the purpose of the valuation is to determine the amount of Bay Point's secured claim in connection with confirmation of the Plan, the date of the valuation typically would be the date of the hearing on confirmation of the Plan. See Houston SportsNet Fin., L.L.C. v. Houston Astros, L.L.C. (In re Houston Reg'l Sports Network, L.P.) , 886 F.3d 523, 529–31 (5th Cir. 2018) ; Heritage Highgate , 679 F.3d at 143 & n.9. The value of the Collateral declines with the cycle count, and the parties have not provided the projected cycle count as of the date set for the hearing on confirmation of the Plan, which is currently August 19, 2020. The Court therefore values the Collateral as of July 24, 2020, the latest date for which a cycle count was stipulated to by the parties.
The Court's guideposts for the appropriate valuation method under the circumstances are UAL and Motors Liquidation II . The import of UAL is that, for non-fungible property like the Collateral, the starting point for the valuation can be determined by looking at comparable properties, "with adjustments for whatever relevant differences exist between the collateral and its comparables." UAL , 351 B.R. at 920. Rather than basing its valuation on a comparable, Motors Liquidation II began with the cost the debtor would have incurred to replace the collateral with new equipment and then made the adjustments discussed in more detail below. But in that case the collateral at issue was put into service many years or several decades before the valuation hearing, and there was no evidence regarding any recent purchases of the collateral. Not so here, where there is evidence of a recent purchase—Murray Oak Grove acquired the Collateral from Bay Point on April 29, 2019 for $15,456,231.75. Indeed, counsel for Bay Point took the position during closing argument that the best evidence of the value of the Collateral before any required reductions was the 2019 acquisition price. Tr. III at 176. Of course, that amount would—given that the parties have stipulated that the Agreement constitutes a secured financing—include an interest component, and the parties have not produced any evidence to aid the Court in quantifying the amount of interest. A better starting point under the circumstances accordingly is another one endorsed by Bay Point that does not include interest—the $16 million figure used by Bartkoski, which is the approximate amount that Seneca would have paid for the ZMJ Shields if it had paid cash plus the amount Bartkoski added for the Tiefenbach Controls that were affixed to the ZMJ Shields when Murray Oak Grove purchased the Collateral from Bay Point.
Motors Liquidation II provides additional guidance regarding the manner in which to make reductions from this $16 million starting point. The collateral in Motors Liquidation II included "stamping presses and machining equipment ... high-tech robotic arms [and] long and winding conveyor systems" that had been sold as part of the going concern sale of GM's business. Motors Liquidation II , 576 B.R. at 340. Given the large number of assets at issue, the Court received evidence on a subgroup denominated the "Representative Assets." The secured creditors with liens on the Representative Assets, which were the defendants in the litigation, argued that the Representative Assets "should be valued according to their replacement cost new less depreciation, as part of a going-concern business" while the plaintiff, a trust acting on behalf of the unsecured creditors, argued for liquidation value. Id. at 339. According to the court, the plaintiff trust was arguing that the Representative Assets should be valued as though the federal government had not intervened and the sale had not taken place, a scenario that would result in Old GM's assets being "valued at their liquidation value—most for scrap." Id. at 341. The court rejected that valuation standard because "that is not the world we live in." Id. Just so here. The Debtors' contention that the Collateral should be valued based on its scrap value must be rejected given that it will be retained rather than surrendered to Bay Point.
The secured creditors in Motors Liquidation II argued that the Representative Assets should be valued "at their replacement costs new less certain depreciation and utilization-based economic obsolescence." Id. at 341. That was a mid-point valuation for the court, which then further reduced the valuation using "a downward adjustment for economic obsolescence according to the earning power of the business at the time and under the circumstances of the 363 Sale in June 2009 during the Great Recession" in order to arrive at its own "going concern in continued use" valuation. Id. at 341. In short, the court's valuation formula subtracted "depreciation, physical obsolescence, and utilization-based economic obsolescence," as well as obsolescence based on "whether the projected earnings of the business"—requiring an adjustment based on total invested capital—"support the valuation of the assets." This methodology led the court to a valuation that it called the "Final Fair Value." Id. at 341–42. The court concluded that, although the "Defendants ask the Court to value the Representative Assets as if they were part of a business with guaranteed earnings to support the assets' value," "[t]hat is not the world we live in, either." Id. at 341. The Motors Liquidation II court's valuation thus took into account all relevant depreciation and obsolescence.
Under the circumstances of this case, the $16 million initial value must be reduced to reflect the fact that it is based on Seneca's purchase of 204 ZMJ Shields while the Collateral includes only 199 ZMJ Shields. In addition, a further reduction is warranted for physical depreciation using a 60,000 cycle count as the useful life of the ZMJ Shields (in order to take into account the adverse conditions under which they have been operated) and 11,246 as the cycle count as of July 24, 2020. In making this reduction, the Court finds persuasive Lewis's testimony that the use of straight-line depreciation is proper because the useful life of longwall shields is not measured in years but instead in the number of cycles they have been operated. And even if new longwall shields should be depreciated on an accelerated basis, Bartkoski's starting point—which is about $6 million less than the cost of new shields and controls—justifies the use of straight-line depreciation, because there is simply no evidence that the Collateral is depreciating on an accelerated basis at this point given the extent of depreciation that has already occurred. As the Court found above, the value of the Collateral based on the methodology employed by Bartkoski, as adjusted by the Court based on the number of ZMJ Shields included in the Collateral and their useful life of 60,000 cycles, is $12,682,933.
Bartoski testified that the cost to replace the Collateral with newly manufactured ZMJ shields equipped with Tiefenbach electronic controls would range from $22 million to $22.5 million. Tr. III at 77–78. And Stump pegged the replacement cost new at $20 million. Tr. II at 38. Moreover, Turner testified that Murray Oak Grove conducted its own analysis to determine what it would cost to purchase new shields from ZMJ and concluded that the price without electric controls would be $21.9, and adding controls would increase the price by an additional $3.9 million, for a total of approximately $25.8 million. Id. at 119–24; Bay Point Exs. R & S. So the evidence established that the Collateral's replacement cost new would range from between $20 million and $25.8 million. In any event, there is a substantial gap between those sums and the Court's $12,682,933 value determination, suggesting that the Collateral has already undergone significant depreciation since the time it was purchased by Seneca in May 2016.
No further reduction should be made for functional obsolescence, which takes into account "loss in value ... due to factors inherent in the property itself and due to changes in design or process resulting in inadequacy, overcapacity, excess construction, lack of functional utility, or excess operation costs." Hilco Rep. at 16. The Court credits Lewis's testimony that a deduction for functional obsolescence of the Collateral is unwarranted given the relatively recent date on which the Collateral was put into service and the fact that there have not recently been any major technological changes in the manufacture of longwall shields. Although the Tiefenbach Controls installed on the ZMJ Shields are less valuable than newer controls that can be operated remotely, there is no evidence that controls allowing remote control of shields is a new technology that only became available after Murray Oak Grove purchased the Collateral. Moreover, no reduction is warranted based on economic obsolescence. As Lewis testified, the Oak Grove Mine produces high quality metallurgical coal that is in demand in the marketplace and, although there will be volatility in the price of this commodity, Murray Oak Grove will continue to be economically competitive. Indeed, it is a business into which Hatfield projects making $107.1 million in capital expenditures through June 2023. Disclosure Statement, Ex. C at 195. Based on the foregoing, the Court finds that there is no basis to reduce the valuation of the Collateral for any functional or economic obsolescence.
Murray Oak Grove argues that a proper valuation of the Collateral must be low enough to reflect the fact that the cash component of the competing bid by Sev.en Energy AG was only $20 million. Tr. III at 153–55. If an asset sale that generated $20 million of cash proceeds was the source of the payments to be made to Bay Point and other secured creditors under the Plan, then Murray Oak Grove would undoubtedly be correct. See Aerogroup , 601 B.R. at 591 ("The auction result set the value of the collateral, and the issue now before me is to determine the appropriate allocation of those Sale Proceeds."). But that is not, to use the language of Motors Liquidation II , the "world we live in." Motors Liquidation II , 576 B.R. at 341. The source of the payments to be made to Bay Point is the operation of Murray Oak Grove's business by Hatfield, payments that in the case of Bay Point are to be made under a promissory note secured by the Collateral. And the business that will be operated going forward has a value far exceeding $20 million, as evidenced by the inclusion in Hatfield's bid of (1) a credit bid of up to $17.7 million; (2) loans in the approximate amount of $171 million; (3) new preferred equity in an amount up to $45 million; and (4) a promissory note issued in satisfaction of Bay Point's secured claim. The value of Bay Point's lien cannot be based solely on the cash component of a bid that was never accepted, but instead must be based on Hatfield's retention of the Collateral, which will continue to serve as security for Bay Point's claim as it is paid over time from the operation of the business.
VI. Conclusion
For all of these reasons, the Court concludes that the value of the Collateral is $12,682,933.