Mezzanine and Mortgage Lenders Bring Knives to a Gunfight: Surviving the Tranche Warfare with Rusty Intercreditor Agreements

Abstract

In the U.S. commercial real estate market, the various lenders in a multi-tranche debt structure negotiate and enter into intercreditor agreements that prescribe each lender’s respective rights and remedies.  Until the recent subprime mortgage crisis, these intercreditor agreements had become largely streamlined but had not been tested in courts.  As the crisis produced a great number of borrower defaults, foreclosures, bankruptcies, and out-of-court workouts, “tranche warfare” broke out among senior and junior lenders who pursued aggressive legal battles to protect their financial interests in shrinking borrower assets.  When such intercreditor disputes wound up in litigation, courts interpreted intercreditor provisions in novel and unexpected ways that, moreover, were contrary to what the lenders had assumed to have accomplished in their agreements.  The consequence of these decisions was to shatter reliance upon previously familiar intercreditor provisions.  This Note focuses on the mezzanine and mortgage lender aspect of the tranche warfare, and proposes drafting changes and additions to intercreditor agreements–such  as standstills, covenants not to sue, and releases of claims–that can help to reduce the prevailing uncertainty in the industry following recent court decisions and that will better capture the lending parties’ intentions in future transactions.