Red Lines: Uptier Transactions and the Erosion of Lender Rights

Rohit Bachani
2 hours ago
7 min read

By: Rohit Bachani, Class of 2028

When a company can no longer comfortably service its debt obligations, one of the strategic avenues available to it is an out-of-court liability management exercise (“LME”) that allows it to restructure its obligations without the costs or reputational consequences of a bankruptcy proceeding.[1] LMEs can take many forms, but distressed debt exchanges have become an increasingly common tool in credit markets today.[2] In a distressed debt exchange, the borrower retires its existing loans and replaces them with new loans that entitle its lenders to a lower priority in the repayment hierarchy.[3] The lenders accept the lower position because their probability of recovery under this structure exceeds what a formal bankruptcy proceeding would typically yield.[4] Unlike a traditional distressed debt exchange—in which all lenders surrender their existing loans to the borrower on identical contractual terms—an “uptier” transaction is a controversial variant that emerged in the wake of the COVID-19 pandemic, in which the borrower selectively negotiates with only a subset of its existing lenders.[5] In exchange for providing new financing, those lenders receive newly issued “superpriority” debt that sits above all existing debt in the repayment hierarchy and subordinates the claims of the non-participating lenders without their consent.[6] This means that if a bankruptcy occurs, the lenders who provide the new financing get paid before the non-participating lenders.[7]

In December 2024, two appellate courts issued decisions on the same day addressing nearly identical uptier financing transactions—and reached seemingly contradictory conclusions.[8] One court invalidated a debt restructuring by Serta Simmons Bedding (“Serta”), finding that the transaction violated the contractual rights of its non-participating lenders under the company’s existing loan agreement.[9] By contrast, another court upheld the debt restructuring of Mitel Networks Corporation (“Mitel”), reasoning that the terms of Mitel’s credit agreement with its lenders expressly permitted the subordination of non-participating lenders without their consent.[10] The disparity in outcomes did not stem from any substantive difference in the structures of the transactions, but from a few words in each company’s credit agreement.[11] These decisions establish the contractual boundaries of permissible uptier transactions and reveal the litigation risk embedded in thousands of existing credit agreements.[12] Crucially, the decisions inform the way credit agreements might be structured and litigated in the future against the backdrop of a private credit market that has swelled to over $2 trillion in outstanding loans.[13]

The Legal Controversy: Pro-Rata Sharing Provisions & Sacred Rights Clauses

The legal issue with uptier transactions stems from the fact that such transactions apparently contradict certain contractual provisions in industry-standard credit agreements involving multiple lenders.[14] When multiple lenders extend credit to a company under a single facility, each lender is treated equally from a payment perspective—this means that no lender will be paid before any other lender, and that the terms governing a lender’s repayment cannot be altered without its consent.[15]

Two contractual provisions ensure that each lender’s position in a credit facility is protected from unilateral modifications by borrowers: the pro-rata sharing provision and the sacred rights clause.[16] The pro-rata sharing provision requires borrowers to distribute any payments proportionally across their lenders.[17] No lender may receive more than their proportional share, and no lender may be elevated above the others in the repayment hierarchy without the consent of the entire lending syndicate.[18] The sacred rights clause prohibits borrowers from amending any term of the credit agreement that would adversely affect an individual lender’s contractual rights—including its position in the repayment hierarchy—without that lender’s specific consent.[19]

Most credit agreements contain exceptions to the protections afforded by the pro-rata sharing provision and the sacred rights clause.[20] One of the most common exceptions is the “open market purchase” exception, which allows borrowers to repurchase its own debt under certain conditions without triggering the pro-rata sharing provision or the sacred rights clause.[21] This exception exists for a legitimate purpose.[22] When a company purchases its own debt on the open market, it reduces its overall debt burden, and in so doing, improves its financial position and ability to repay its remaining lenders.[23] Some distressed borrowers have exploited this exception to execute uptier transactions, arguing that the debt exchange at the heart of the uptier—in which selected lenders swap their existing loans for new superpriority debt—qualifies as a permissible purchase under the language of their credit agreements.[24] This tension underpins the appellate courts’ decisions in the cases involving the Serta and Mitel restructurings.

Serta & Mitel: Divergent Outcomes

In In re Serta Simmons Bedding, L.L.C., 125 F.4th 555 (5th Cir. 2024), the court evaluated an uptier transaction executed by Serta—a mattress manufacturer facing acute financial distress—in June 2020.[25] The participating lenders, who collectively held a majority of Serta’s existing term loans, provided $200 million in new financing and exchanged their existing loans for new debt at a significant discount.[26] The excluded lenders received nothing and were not invited to participate in the transaction.[27] When Serta filed for bankruptcy in 2023, the excluded lenders contested the uptier transaction, asserting that it violated the pro-rata sharing provisions of Serta’s credit agreement.[28] Serta and the participating uptier lenders claimed that the transaction was permissible because it was an open market purchase—an enumerated exception to pro-rata treatment under Serta’s credit agreement.[29] The bankruptcy court agreed with this assessment, reasoning that because multiple creditor groups had been actively negotiating with Serta over various restructuring proposals, the uptier was a product of the “open market.”[30] The Fifth Circuit reversed.[31] Interpreting the term “open market purchase” narrowly, it recognized that an open market purchase requires a transaction conducted on the established secondary market for syndicated loans, and not a privately negotiated exchange with a small group of lenders.[32] Since Serta’s uptier was negotiated privately, it failed to satisfy the open market purchase exception and was therefore invalid.[33]

In Ocean Trails CLO VII v. MLN Topco Ltd., 233 A.D.3d 614 (N.Y. App. Div. 2024), the court assessed a nearly identical uptier transaction executed by Mitel, a telecommunications company, in October 2022.[34] Participating lenders provided nearly $156 million in financing and exchanged their loans for new debt at modest discounts.[35] Just like Serta, the excluded lenders were not offered the opportunity to participate in the transaction, and their loans were subordinated to the uptier lenders’ loans without their consent.[36] The excluded lenders asserted that the transaction violated their sacred rights to consent to any non-pro-rata distribution and any modification that adversely impacted the value of their loans.[37] The court dismissed the excluded lenders’ claims entirely.[38] Unlike the credit agreement in Serta, Mitel’s credit agreement contained a “purchases” exception to pro-rata treatment with no “open market” qualifier—language the court read broadly to permit the uptier exchange.[39] The court further noted that the uptier transaction did not directly modify the excluded lenders’ loan terms—their loans remained in place under the same economic terms, and the subordination of their claims was merely an indirect consequence of the exchange, insufficient to trigger their sacred rights protections.[40]

Ultimately, the divergence between the holdings of the Serta and Mitel cases was the result of a single contractual distinction.[41] Serta’s credit agreement required that debt repurchases occur through “open market purchases,” a term which the court in that case interpreted to mean transactions conducted on the established secondary market for syndicated loans.[42] Mitel’s credit agreement contained no such qualifier, and the language was broad enough to encompass a privately negotiated exchange with select lenders.[43] In practical terms, the court’s holding in Ocean Trails suggests that borrowers may privately negotiate deals with select lenders that leave other lenders worse off if: (i) the provisions of their credit agreements are worded broadly enough to allow for such transactions; and (ii) the excluded lenders’ existing loan terms remain formally unchanged.[44]

Legal & Market Implications

The Serta and Ocean Trails decisions provide critical learnings for lenders and borrowings alike, and their salience is underscored by the fact that over 50% of corporate defaults today occur through LMEs in lieu of traditional Chapter 11 filings.[45] First, lenders who negotiate credit agreements with solvent borrowers have a strong incentive to push for explicit blockers against non-pro-rata transactions that affect their position in the repayment hierarchy in any way.[46] These same lenders may also choose to preemptively organize into defensive coalitions when their borrowers experience distress to avoid being excluded from uptier transactions altogether.[47]

Second, borrowers have a strong incentive to select governing law and jurisdiction strategically when structuring new credit agreements because contracts that include broad purchases exceptions are evidently more likely to withstand judicial scrutiny.[48] The outcome of any future dispute will undoubtedly continue to turn on the precise language of the credit agreement at issue.[49]

[1] See Sam Brodie et al., Liability Management Exercises: A Transatlantic Perspective, Akin Gump Strauss Hauer & Feld LLP (June 1, 2023), https://www.akingump.com/en/insights/alerts/liability-management-exercises-a-transatlantic-perspective.

[2] Dylan Herrmann et al., Liability Management Exercises Flex Their Strength, Brandywine Global Investment Management, LLC (Nov. 20, 2025), https://www.brandywineglobal.com/around-the-curve/2025/liability-management-exercises-flex-their-strength.

[3] See Maya Kapelnikova, Bankruptcy and Distressed Debt Exchanges: 2008 Financial Crisis to COVID-19, Columbia Business Law Review (Oct. 19, 2020), https://journals.library.columbia.edu/index.php/CLBR/announcement/view/344

[4] See id.

[5] See Kaitlin Walsh and Timothy McKeon, Watch Your Language! Non-Pro Rata Uptier Transactions and the Serta and Mitel Decisions, Mintz, Levin, Cohn, Ferris, Glovsky and Popeo, P.C. (Feb. 12, 2025), https://www.mintz.com/insights-center/viewpoints/2831/2025-02-12-watch-your-language-non-pro-rata-uptier-transactions-and.

[6] Id.

[7] Id.

[8] See id.

[9] Id.

[10] See id.

[11] See id.

[12] See id.

[13] Saeed Azhar et al., Blue Owl Turmoil adds to strain in $2 trillion US private credit sector, Reuters (Feb. 27, 2026), https://www.reuters.com/business/finance/blue-owl-turmoil-adds-strain-2-trillion-us-private-credit-sector-2026-02-27/

[14] Sean Scott, Joaquin De Baca, and Dabin Chung, Serta and Mitel: The Latest Major Court Decisions on Uptier Transactions, Mayer Brown LLP (May 30, 2025), https://www.mayerbrown.com/en/insights/publications/2025/05/serta-and-mitel-the-latest-major-court-decisions-on-uptier-transactions.

[15] See Pro Rata Sharing Provisions in Credit Agreements: What Lenders and Loan Investors Need to Know, Chapman and Cutler LLP (July 25, 2017), https://www.chapman.com/publication-Pro-Rata-Sharing-Provisions-Credit-Agreements

[16] See Suhan Shim and Margot Wagner, Liability Management Using Uptier Transactions — Recent Case Developments, ICLG (Apr. 6, 2025), https://iclg.com/practice-areas/lending-and-secured-finance-laws-and-regulations/20-liability-management-using-uptier-transactions-recent-case-developments

[17] See id.

[18] See id.

[19] See id.

[20] See id.

[21] Ira Dizengoff et al., Serta – Fifth Circuit Decision, Akin Gump Strauss Hauer & Feld LLP (Jan. 9, 2025), https://www.akingump.com/en/insights/alerts/serta-fifth-circuit-decision.

[22] See Alarna Carlsson-Sweeny, PLC, Debt buy-backs: from chaos to opportunity, Thomson Reuters (Aug 4. 2008), https://uk.practicallaw.thomsonreuters.com/5-382-7420?transitionType=Default&contextData=(sc.Default)&firstPage=true#:~:text=Commercial%20effect%20still%20beneficial,purpose%20of%20the%20leverage%20covenant.

[23] See id.

[24] See Dizengoff et al., supra note 19.

[25] Jacob Adlerstein et al., Appellate Review of Uptier Transactions: Serta and Mitel Decisions Reversed on Appeal, Paul, Weiss, Rifkind, Wharton & Garrison LLP (Jan 10. 2025), https://www.paulweiss.com/insights/client-memos/appellate-review-of-uptier-transactions-serta-and-mitel-decisions-reversed-on-appeal.

[26] Id.

[27] Id.