Bankruptcy and Commercial Real Estate and Real estate deals and Finances

Judge to determine whether Lauth's filing was proper

June 22, 2009

The largest outside investor in embattled developer Lauth Group Inc. is asking a federal judge to dismiss the company's bankruptcy cases.

In a June 17 filing, Chicago-based Inland American Real Estate Trust argues Lauth did not have the authority to file bankruptcy for two entities created in 2007 as part of an agreement for Inland to invest up to $250 million in the Indianapolis-based company.

Inland claims an entity it controls took over Lauth subsidiaries LIP-D and LIP-I on April 27 after Lauth defaulted on the equity investment agreement for 40 properties in various stages of development.

But Lauth says it is still in control of the entities thanks to a clause requiring approval from at least one Lauth representative and one Inland representative for major company decisions. (Those two subsidiaries, along with a third Lauth entity called Lauth Investment Properties, filed for Chapter 11 in early May.)

Inland describes Lauth's stance as "misguided."

"To sustain the debtors' position, the court would have to find that the parties intended the Lauth Managers of Holdings to have a never-ending right to block any action against their affiliates regardless of defaults," LIP Holdings LLC, which is controlled by Inland, said in the filing.

"Giving the borrower's corporate parent the power to hamstring loan enforcement upon the borrower's default would undermine the entire financing arrangement and lead to a completely absurd result."

The filing is an update to a June 2 Inland motion that took a blunter tone—claiming that Lauth engaged in a "conspiracy" to protect its own principals and prevent Inland from exercising its rights. Inland has since hired Catherine L. Steege of Chicago-based Jenner & Block LLP as its lead attorney, replacing Claire Ann Resop of Madison, Wisc.-based Von Briesen & Roper.

The earlier filing claims Lauth paid millions to insiders on the eve of the bankruptcy, guaranteed $100 million in loans not approved by the agreement, and secretly executed indemnification agreements that let Lauth principals off the hook for personal guarantees of up to $400 million.

It said the bankruptcies are a tactic to thwart Inland, not to reorganize Lauth.

"The debtors are continuing the pattern of dishonesty that they established prepetition and are not capable of exercising the level-headed, independent business judgment necessary to manage a chapter 11 bankruptcy estate," the filing says.

Attorneys for Lauth say the company is trying to look out for all creditors. They say Inland was aware of the indemnification deals and deny most other allegations.

"This is a transparent process; every dollar has to be accounted for," said Stephen Hackney, a partner at Chicago-based Kirkland & Ellis LLP. "Inland wants to disadvantage other creditors. Inland wants to liquidate at the bottom of the worst real estate market in history. Our point as the people who run the company is to protect all of the stakeholders."

The convoluted corporate structure actually was put in place at Inland's request so the investment would meet requirements for real estate investment trusts, said Vernon Back, an in-house attorney for Lauth.

He said the portfolio will produce value for both Lauth and Inland if it is allowed to mature rather than be liquidated now.

Inland doesn't see it that way. "What nobody understood ... was the rapidity at which the development market, the credit markets, and the whole real estate industry in general would deteriorate," Inland said "As such, the .... Lauth Insiders were, and still are, powerless to correct the deep and numerous problems with their portfolio."

One of Lauth's chief legal arguments—that officials from both Inland and Lauth must approve major moves such as a change in control—might also be construed to support Inland's case. The Inland camp never gave its approval for a bankruptcy filing.

"They just want to make Inland a creditor, not someone who has managerial control," said Jeff Hokanson, an attorney with locally based Hostetler & Kowalik who serves as local counsel for Inland.

Attorneys for Lauth have said in court that the company only has enough cash to survive a few more weeks, and it can't get the roughly $25 million it needs in debtorin-possession financing until U.S. Bankruptcy Judge Basil H. Lorch determines whether to let the bankruptcy proceed.

A hearing is scheduled for Aug. 5.•

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