(CN) – Lenders are entitled to collect the full $60 million they loaned to United Airlines to improve leased airport space before the airline filed for Chapter 11 bankruptcy, the 7th Circuit ruled.
The bankruptcy court determined that the loans were backed by more than 345,000 square feet of improved space, valued at $17 per square foot as of 2004. Anticipating that rent would increase through 2021, when the loan comes due, the court reduced the value by 10 percent per year, leaving the secured portion of the debt at $35 million. The remaining $25 million was treated as unsecured debt and written down according to the reorganization plan.
The district judge affirmed the plan.
But the federal appeals court in Chicago disagreed with how the bankruptcy court had arrived at the discount rate and annual rental rate.
To establish the discount rate, the bankruptcy court used the rental price that Los Angeles International Airport charges United and other airlines for terminal space. It then added the lenders’ proposed rate to United’s proposed rate and divided by two.
“Neither of these decisions is sound,” Judge Easterbrook wrote.
The court also agreed with lenders that $17 per square foot doesn’t accurately represent the market rate, because it ignores the improvements United made to the leased space.
“If United had leased bare ground and built a terminal there from scratch, no one would say that the terminal’s value is measured by the rental price for the underlying land,” Easterbrook wrote. “That, however, is fundamentally what the bankruptcy court did here. The lenders have been told that their collateral is worth no more than if United had not made the improvements.”
He added: “Any valuation method that treats improvements as worthless can’t be appropriate.”
The court concluded that the lenders are entitled to full recovery of their $60 million.