Thu 03/11/2021 18:17 PM
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Relevant Documents:
Voluntary Petition - FMT
Voluntary Petition- SC SJ
First Day Declaration
Restructuring Support Agreement
DIP Financing Motion
First Day Hearing Agenda


















Summary
Debtors own and operate the Fairmont San Jose, a luxury convention hotel “in the heart of Silicon Valley”
Attribute filing to the Covid-19 pandemic, difficulties obtaining funding and a strained relationship with hotel manager Fairmont, which the debtors say has refused to acknowledge the debtors’ termination of the management agreement after shuttering the hotel
Seek restructure prepetition secured loan, reject hotel management agreement and run “a comprehensive process to solicit proposals from competing hotel brands that would be willing to provide exit financing”

FMT SJ LLC, which owns the San Jose Fairmont hotel in San Jose, Calif., filed for chapter 11 protection on Friday, March 5, in the Bankruptcy Court for the District of Delaware, the day the hotel was closed. Affiliate SJ SC Holdings LLC also filed. For access to the relevant documents above as well as our First Day by Reorg team's coverage of all U.S. chapter 11 cases filed since 2012 with over $10 million in liabilities including the Fairmont San Jose bankruptcy filing Request a Trial here.

The debtors have entered into a restructuring support agreement with (a) prepetition guarantors of secured debt Sam Hirbod (the debtors’ ultimate beneficial owner) and Eagle Canyon, (b) preferred member CLNC Fair Jose Pref LLC and (c) their first lien lender CLNC 2019-FL1 Funding LLC, which is owed $175 million. The RSA contemplates transitioning from Fairmont to a new hotel operator, with a toggle depending on whether an adequate partner is found during the cases. To the extent that the debtors are successful in raising the contemplated $45 million mezzanine debt or equity contribution, then the secured loan would be extended by three years from the effective date of a chapter 11 plan, with options for two one-year further extensions. The loan was set to mature on April 9. Absent the mezzanine loan or equity contribution, the secured loan would be extended until nine months after the plan’s effective date, providing the debtor with time to refinance the loan. The RSA also contemplates rejecting the hotel management agreement with Fairmont to allow for a transition to a new hotel brand.

With “modest cash on hand,” the debtors seek $7.5 million in unsecured, superiority DIP financing from nondebtor affiliate FMT SJ Catering LLC.

The debtors say that they intend to file a motion to conduct a marketing process to solicit a new hotel brand, with certain minimum requirements including providing for a mezzanine loan or subordinated investment of at least $45 million to be eligible for consideration.

“Though normally a profitable enterprise, the Debtors’ business took a dramatic and sudden downturn'' due to the Covid-19 pandemic, Chief Restructuring Officer Neil Demchick says in the first day declaration. The debtors note that the hotel’s average occupancy rate during the pandemic has been approximately 7.7%, with average room rates dropping from $254 per night to $154 per night. The business posted losses in excess of $18.6 million in 2020, and these losses are expected to be surpassed in 2021; the debtors project losses of more than $18.8 million for the current year. “Because the Hotel is not a ‘vacation-destination’ resort,” Demchick continues, “much of its business during the pandemic has been to accommodate airline pilots, flight attendants, and essential health workers.” According to the declaration, “analysts’ forecasts predict a long recovery period for the entire hospitality sector,” and “one industry analyst predicts that occupancy will not return to pre-pandemic levels until 2022 or 2023.”

The first day hearing has been scheduled for Friday, March 12, at 10 a.m. ET.

The company reports $500,000 to $1 million in assets and $100 million to $500 million in liabilities. The company’s prepetition capital structure includes:

  • Secured debt:

    • CLNC 2019-FL1 Funding LLC: $175 million



  • Unsecured debt:

    • Trade debt: $10 million “or more” (including amounts owed to Fairmont under the HMA for prospective liquidated damages)





  • Equity: The debtors are organized as member-managed limited liability companies. FMT SJ Holdings is the sole member of both debtors.


The CLNC term loan is secured by a first lien mortgage on the hotel and is supported by (a) unsecured guarantees from Eagle Canyon Holdings LLC, the debtors’ indirect parent company, and Sam Hirbod, the debtors’ ultimate beneficial owner and (b) secured guarantees from nondebtor affiliates GA SJ LLC and FB SJ Holdings LLC.

In addition, since the pandemic has started, the debtors relied on approximately $14 million of capital contributions from their equity owner for ordinary course expenses and monthly debt service on the mortgage. ST SJ LLC, the debtors’ indirect parent company, issued preferred equity to CLNC Fair Jose Pref in exchange for funds that were contributed to the debtors (in the ultimate amount of $4.8 million) to cover (a) up to $2.4 million in monthly debt service shortfalls and (b) capital expenditures.

In March 2020, LW Hospitality Advisors prepared (though did not finalize) an appraisal of the hotel for the purpose of underwriting a potential loan (which ultimately never came to fruition), the debtors say. LW Hospitality Advisors appraised the hotel: (a) on an “as is” basis at $261 million, (b) with a “prospective market value upon completion of renovation” on March 1, 2021, at $285.5 million, and (c) with a “prospective market value upon stabilization” on March 1, 2023, at $304 million. “Based on all of its knowledge of the Hotel and the market and the range of draft appraised values,” the debtors continue, “the Hotel’s owner believes the value of the Hotel substantially exceeds the balance of the Secured Loan of approximately $175 million.”

Similar issues arose in the bankruptcy case of Wardman Hotel Owner, which owns real property in Washington, D.C., that formerly operated as the Washington Marriott Wardman Park Hotel. Similar to FMT, Wardman also sought to reject its management agreement, in its case with Marriott, as part of its first day papers. Both hotel operators also seek to run a sale or marketing process. Along with other issues, both hotels blamed the impact of the pandemic on operations.

The debtors are represented by Pillsbury Winthrop Shaw Pittman and Cole Schotz as counsel. Neil Demchick of Verity is the chief restructuring officer. The case has been assigned to Judge John T. Dorsey (case No. 21-10549).

Events Leading to the Bankruptcy Filing

The company attributes the bankruptcy filing to deficient revenue to cover operating expenses and monthly debt service payments since the start of the pandemic, failed efforts to obtain alternative sources of financing or a purchaser for the hotel and the actions of Fairmont, which, the debtors say, refused to honor hotel ownership’s February 2021 instructions to close the hotel, neglected to support the hotel’s “clear need for capital” and failed to acknowledge the debtors’ Feb. 4, 2021, termination of the hotel management agreement, preventing the debtors from approaching “a brand that appeared likely willing to provide substantial subordinate financing.”

Noting that the “logical consequence of Fairmont’s strategy was foreclosure upon the Hotel,” the debtors say they understand that “a Fairmont executive asserted to Secured Lender, as recently as March 4, 2021, that if Secured Lender were to foreclose, an existing SNDA would require it to abide by the HMA and keep Fairmont as the Hotel’s manager,” and “with full knowledge (since February 16, 2021) that the Debtors were preparing to file for chapter 11, Fairmont (in the proverbial ‘race to the courthouse’) went so far as to commence an arbitration proceeding with the AAA at or around midnight (prior to FMT SJ’s chapter 11 filing), seeking a temporary restraining order to prevent closure of the Hotel.” This litigation attempt was “part and parcel” of Fairmont’s refusal to honor hotel ownership’s February 2021 instructions to close the hotel in an orderly fashion to preserve guest and employee relations, the debtors say.


According to the debtors, Fairmont’s “professed ‘solution’” to the debtors regarding an undisputed amount of almost $2 million per month in losses for the hotel consisted of further cost-cutting initiatives, allowing the secured loan to go into default, and demanding that the debtors fund large monthly operational shortfalls, despite the debtors having no available funds. The debtors say that Fairmont reached out to the prepetition secured lender to discuss the secured lender’s SNDA, “which Fairmont contends would bind the buyer at a foreclosure sale to Fairmont.” This call “was just another manifestation of Fairmont’s desperate strategy of delaying and preventing the Debtors from accessing capital, to force the Debtors into further insolvency, all with the hope (if not intention) of orchestrating a foreclosure, thereby enabling Fairmont to keep its name on the Hotel.” Unsatisfied with the secured lender’s response, Fairmont filed a motion for a temporary restraining order in the arbitration proceeding shortly thereafter.

Background

The Fairmont San Jose is a luxury convention hotel “in the heart of Silicon Valley,” near many tech industry corporate offices. The 20-story, two-tower building contains 805 rooms and suites, 65,000 square feet of state-of-the-art meeting and event space, three restaurants with bars, a café bakery, a fitness center and a rooftop pool and gazebo. The hotel features grand ballrooms for large conferences and conventions as well as intimate spaces for smaller gatherings.


The hotel property is shown below:
Fairmont San Jose bankruptcy

The debtors purchased the hotel in January 2018 from Light Tower Associates and certain Light Tower affiliates. The purchase was funded in part by the prepetition secured loan. Prior to the petition date, the hotel was managed by Fairmont Hotels & Resorts (U.S.) Inc. pursuant to a December 2005 hotel management agreement (as amended).

Since the start of the pandemic, the debtors’ business has not generated sufficient revenue to satisfy operating expenses and monthly debt service payments under the secured loan. Instead, the debtors have relied on approximately $14 million of capital contributions from their equity owner to pay ordinary course expenses and monthly debt service obligations. The hotel was closed on March 5.

The chart below summarizes key business metrics for the hotel from April 2019 to September 2020.



 
Fairmont San Jose Business metrics

 


In August 2020, the debtors retained Jones Lang Lasalle to help solicit offers from third-party investors. These efforts were largely unsuccessful.

Nevertheless, analysis by CHMWarnick, which was retained by the debtors as hotel owner advisor, found that “all major brands potentially suited to manage the Hotel responded positively, and at least one indicated that it would be willing to provide additional financing to the Hotel as part of the package.”

When Fairmont resisted the debtors’ efforts to shutter the hotel, it provided the debtors with newly created financial projections purporting to show that the hotel’s losses would be narrower if the hotel stayed open in March through June. Upon review, however, the debtors determined that Fairmont’s new projections, which still showed heavy losses, were based on speculative revenue assumptions that substantially exceeded post-pandemic actual performance.

On the basis of its inability to cover operating expenses, the debtors “over Fairmont’s objection” entered into a lease termination and surrender agreement providing for a mutual and unconditional termination of the lease.

In weighing their options and ultimately determining to pursue a chapter 11 filing, the debtors engaged with their secured lender and preferred equityholder CLNC Fair Jose Pref, in an effort to build a consensus around the terms of their ultimate restructuring and an extension of the secured loan that is now all due and payable, ultimately culminating in the restructuring support agreement.

Chapter 11s filed by hotel owners are accelerating in 2021. After a total of 11 cases in 2020, there have been 10 cases this year through March 11.

The debtors’ corporate organizational structure is shown below:

 
The debtors' largest unsecured creditors are listed below:





 











































































10 Largest Unsecured Creditors
Creditor Location Claim Type Location
Otis Sunnyvale, Calif. Contract $    2,279,948
Accor/Fairmont
Hotel Resorts
Toronto Contract 1,979,070
Accor/Fairmont
Hotel Resorts
Toronto Contract 1,500,000
City of San Jose San Jose, Calif. Government 1,063,305
Pacific Gas &
Electric
Sacramento, Calif. Utility 995,139
Pacific Coast
Trane
Sunnyvale, Calif. Contract 352,820
Impark San Francisco Contract 339,438
CA Department
of Tax and Revenue
San Jose, Calif. Government 244,131
Minibar North
America
Rockville, Md. Contract 238,777
PSAV San Jose, Calif. Contract 202,378

The case representatives are as follows:



 







































































































Representatives
Role Name Firm Location
Debtors' Co-Counsel Patrick J. Potter Pillsbury
Winthrop
Shaw
Pittman
Washington
Jonathan Doolittle
Rahman Connelly
Debtors' Co-Counsel Justin R. Alberto Cole
Schotz
Wilmington, Del.
Patrick J. Reilley
Michael Trentin Hackensack, N.J.
Matthew J. Livingston New York
Debtors' CRO Neil Demchick Verity N/A
Co-Counsel to the
Prepetition Secured
Lender
Jeffrey C. Krause Gisbon,
Dunn &
Crutcher
Los Angeles
Michael S. Neumeister
Rama S. Douglas
Co-Counsel to the
Prepetition Secured
Lender
Derek C. Abbott Morris
Nichols
Arsht &
Tunnell
Wilmington, Del.
Paige N. Topper
Counsel to the
DIP Lender
Steven Kortanek LimNexus Wilmington, Del.
Co-Counsel to
Accor Management,
f/k/a Fairmont
Hotels and Resorts
Samuel A. Newman Sidley
Austin
Los Angeles
Genevieve G. Weiner
Julia Philips Roth
Chad S. Hummel
Co-Counsel to
Accor Managment,
f/k/a Fairmont
Hotels and Resorts
Sean M. Beach Young
Conaway
Stargatt
& Taylor
Wilmington, Del.
Debtors' Claims
Agent
Sheryl Betance Stretto Irvine, Calif.



Restructuring Support Agreement

The RSA contemplates the debtors’ filed motion to reject their hotel management agreement with Fairmont as well as a bid procedures motion (which has yet to be filed).

The RSA term sheet provides for the following proposed treatment of claims and interests:

 

The RSA is subject to the following milestones:

  • Petition date: March 10;

  • HMA rejection motion/marketing motion: File within three days of petition date;

  • Interim DIP financing order: Entered within three days of petition date;

  • Plan/disclosure statement: Filed within 10 days of petition date;

  • Bid procedures order: Entered within 25 days of petition date (and commence solicitation process within five days after);

  • Final DIP order: Entered within 30 days of petition date;

  • HMA rejection order: Entered within 30 days of petition date;

  • DS order: Entered within 50 days of petition date;

  • Plan solicitation: Commenced within 55 days of petition date;

  • Plan confirmation hearing: Within 100 days of petition date;

  • Confirmation order: Entered within 105 days of petition date; and

  • Effective date: Within 120 days of petition date.


DIP Financing Motion

The debtors seek approval, pursuant to a term sheet, of an unsecured superpriority $7.5 million DIP facility ($2.5 million on an interim basis) from a nondebtor affiliate. The motion describes the facility as a “low-cost, high-flexibility package.”

The DIP financing bears interest at 3%, with 6% for the default rate, and matures in six months. The debtors assert that the DIP terms are “exceptionally borrower friendly,” with “no plan milestones, no financial covenants (other than a prohibition on making payments on prepetition indebtedness), no affirmative covenants, and no budget-based borrowing restrictions.” There are no proposed fees.

The company proposes the following adequate protection to its prepetition secured lender: replacement liens and superpriority administrative expense claims. “As the Prepetition Secured Lender’s claim is oversecured, it is also receiving interest (that will accrue but is not required to be paid) and attorneys’ fees,” the debtors add. Interest would accrue at the default rate.

In addition, subject to the final order, the debtors propose a waiver of the estates’ right to seek to surcharge its collateral pursuant to Bankruptcy Code section 506(c) and the “equities of the case” exception under section 552(b).

The carve-out for professional fees is $350,000.

The proposed budget for the use of the DIP facility is HERE.

The lien challenge deadline is the later of 75 days after entry of the interim DIP order for all parties other than an official committee of unsecured creditors, which would have 60 days from appointment.

Motion to Reject the Hotel Management Agreement

The debtors seek approval to reject the hotel management agreement under which Fairmont operates the debtors’ hotel as well as the owner agreement between the debtors and Fairmont, which obligates the debtors to perform certain duties under the HMA. The motion says that because the debtors made the decision to close the hotel earlier this month in connection with their reorganization pursuits, “there is nothing for Fairmont to manage under the HMA, and it is not presently doing so.”

“As a result of recent acts and omissions, including Fairmont’s refusal to honor the instructions of Hotel ownership, coupled with its inability to recognize the realities of the Hotel’s deteriorating financial condition and its apparent expectation that Hotel ownership would continue to blindly and endlessly inject capital to fund negative cash flow, the business relationship between Fairmont and Hotel ownership is beyond repair,” the motion continues.

The debtors say that it is “critical” that the agreements be rejected as soon as possible to avoid any argument that additional administrative expenses accrue after the petition dates, as maintaining these agreements would “unnecessarily burden the Debtors and their estates, and these agreements are not necessary for and in fact will interfere with the Debtors’ restructuring plans since the Hotel is not operating.”

Other Motions

The debtors also filed various standard first day motions, including the following:




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