Top Stories

Dante’s Third Ring: Investors Bring Adversary Proceeding in SDNY Bankruptcy Court

By Mark Ellenberg, Doug Mintz & Kathryn Borgeson
Posted: 14th March 2012 10:29

The battle over the enforceability of priority flip clauses in CDO indentures has entered a new phase.  On February 8, 2012, a group of investors led by Belmont Park Investments Pty Ltd. filed an adversary proceeding against Lehman Brothers Special Financing Inc. and BNY Mellon Corporate Trustee Services Ltd. in the U.S. Bankruptcy Court for the Southern District of New York.  The Investors seek recognition of a judgment entered by the High Court of Justice in England and Wales in Belmont Park Inv. Pty Ltd. & Others v. BNY Corp.  Trustee Servs. Ltd., and a declaration that, as a matter of English law, the Investors have priority over LBSF, as swap provider, with respect to shared collateral securing notes issued under Lehman Brothers’ “Dante Programme.”  The Investors filed a concurrent motion to withdraw the reference, seeking to remove the adversary proceeding from the U.S. Bankruptcy Court to the U.S. District Court. 

Bankruptcy Judge James M. Peck previously found that the U.S. Bankruptcy Code prohibited enforcement of the same “flip” clause at issue here – despite the fact that the English courts had previously found the clause to be valid under English law.  Judge Peck’s decision not only impacted the Lehman CDOs, but roiled the entire securitization market.  Flip clauses regarding payments to swap providers are common features of many securitization programs.

The Dante Programme

Lehman Brothers International (Europe) arranged the Dante Programme, which consists of multiple series of synthetic, credit-linked CDOs in the form of notes linked to credit default swaps.  English law governs the transactions, and the parties agreed to jurisdiction in the English courts.  The Issuers of each series of notes – including Saphir Finance Public Limited Co., Beryl Finance Limited and Zircon Finance Limited – also served as the counterparty to LBSF under the credit default swaps, and used the proceeds from the sale of the notes to purchase collateral.  The Issuers then pledged the collateral to BNY, as trustee, to secure their obligations to the noteholders and LBSF. 

Under the clauses at issue, money flowing out of the Issuers would first be applied to pay amounts owed to LBSF, under the swaps.  However, if either LBSF or Lehman Brothers Holdings Inc. filed bankruptcy, the trust documents flipped seniority, placing LBSF at the bottom of the waterfall.  The swaps incorporated the CDO waterfall.

LBHI filed for chapter 11 protection under the Bankruptcy Code on September 15, 2008.  The filing triggered events of default under the credit default swaps and triggered the flip clauses, which allowed the noteholders to leapfrog LBSF and take first priority against the collateral.  LBSF filed for chapter 11 protection shortly after LBHI, on October 3, 2008.  Subsequently, the Issuers terminated the credit default swaps with LBSF and issued notices declaring the notes due and payable at their early redemption amount. 

The English Dante Decision

In May 2009, Perpetual Trust Company, which held CDOs in two series of notes issued under the Dante Programme, commenced an action in the High Court of Justice in England, seeking a judgment requiring BNY to distribute the collateral to the noteholders in accordance with the flip clauses.  In June 2009, Belmont Park brought a separate action seeking substantially the same relief, which was heard at the same time as the Perpetual action. 

On July 28, 2009, the High Court issued a judgment in favor of the noteholders and against LBSF, holding that (i) LBSF committed events of default under the swap agreements on September 15, 2008 and October 3, 2008; (ii) the Issuers properly terminated the swap agreements; (iii) the flip clauses are valid, effective and enforceable under English law; and (iv) LBHI’s September 15, 2008 bankruptcy filing automatically triggered the flip clauses. 

On November 6, 2009, the Court of Appeal of England and Wales dismissed LBSF’s appeal and affirmed the High Court judgment.  On July 27, 2011, the Supreme Court of the United Kingdom affirmed the decisions of the Court of Appeal and the High Court.  The High Court has taken no further action with respect to the collateral since the Supreme Court entered its judgment.

The U.S. Decision

At the end of May 2009, while the English action was pending, LBSF asked the U.S. Bankruptcy Court for a summary judgment that the ipso facto provisions of the Bankruptcy Code rendered the flip clauses unenforceable.  BNY filed a cross-motion for summary judgment, arguing that the U.S. Bankruptcy Court must defer to the English courts’ rulings in the Perpetual case, and that, even if the flip clauses were unenforceable ipso facto clauses, the Bankruptcy Code’s safe harbor provisions permitted their enforcement. 

On January 25, 2010, the U.S. Bankruptcy Court ruled that the flip clauses were unenforceable ipso facto clauses under the facts of the case, and that because the trust documents contained the flip clauses, rather than the swap agreements, the Bankruptcy Code’s safe harbor provisions did not apply.  BNY appealed to the U.S. District Court, but the parties settled the case before the appeal was heard. 

The Investors’ Adversary Proceeding

In the new adversary complaint, the Belmont Investors seek an order recognizing and enforcing the High Court’s judgment on the basis of international comity.  In addition, the Investors seek an order (i) declaring that the flip clauses are valid, effective and enforceable, and (ii) declaring that BNY may distribute the collateral to the noteholders in accordance with the flip clauses, without exposing itself to liability in the U.S. or under U.S. law.

The Investors cite to the English courts’ determination that the flip clauses were automatically triggered by LBHI’s September 15, 2008 bankruptcy filing, and argue that by the time LBSF filed for bankruptcy on October 3, 2008, it no longer possessed first priority rights in the collateral.  The Investors assert that because LBSF did not possess first priority rights in the collateral as of October 3, 2008, the operation of the flip clauses does not implicate the Bankruptcy Code’s automatic stay or prohibitions on ipso facto clauses.  The Investors also assert that, even if LBSF’s bankruptcy alone triggered the flip clauses, the Bankruptcy Code’s safe harbor provisions exempt the flip clauses from both the automatic stay and the anti ipso facto provisions.


For the past two years, the law regarding the enforceability of flip clauses has been in flux.  The new action filed by the Investors has the potential to bring more certainty to the area, although it is also possible that the Investors could prevail on narrow grounds, specific to the facts of this case.


Mark Ellenberg is a partner in the Financial Restructuring Department of Cadwalader, Wickersham and Taft, LLP, where he advises debtors and creditors in complex financial restructuring, workout and bankruptcy matters.  A recognized expert on issues relating to swaps, derivatives and other trading contracts, he represented a number of creditors in the Lehman bankruptcy cases and also was special counsel to Enron for issues relating to the close out of its trading book.  Mark became a fellow of the American College of Bankruptcy in 2004 and is listed in Who's Who Legal USA and the International Who's Who of Insolvency and Restructuring Lawyers.  He has also been recognized as a leading lawyer by several publications, including Chambers USA, The Washingtonian and LawDragon, which named him one of the 500 best lawyers in the United States.  Mark can be reached at +1 202 862 2234 or

Doug Mintz is a Special Counsel in the Cadwalader Financial Restructuring Department, who can be reached at +1 202 862 2475 or

Kathryn Borgeson is an associate in the Cadwalader Financial Restructuring Department, who can be reached at +1 202 862 2384 or


Related articles