For a downloadable PDF of our memorandum discussing these frequently-asked questions about Upstreams, click here.

What is an “upstream”?
In secondary loan market parlance1 an “upstream” is an agreement pursuant to which current seller, or its predecessors-in-interest, acquired some or all of the debt or related rights now being resold to purchaser.

What additional protections do upstreams give a purchaser of distressed debt?
Particular upstream sellers may be uniquely positioned to transfer key rights to purchaser, to make particular representations to purchaser, or to take necessary actions on its behalf.  For example, “related claims” against agents, counsel, auditors and other third parties in connection with the underlying loans may need to have been transferred by the particular upstream holder that held the loans at the time the claims arose.  Conduct subjecting the loans to equitable subordination or setoff may constitute a breach of a particular representation made by the upstream holder that engaged in the conduct.  And the passing of a voting record date under a Chapter 11 plan before seller closes its buy-in of the subject loans may lead purchaser to rely upon a particular upstream seller’s compliance with its obligation to execute its downstream holders’ elections under the plan.

Do upstreams also pass along prior holders’ loan-related affirmative liabilities to purchaser?
Generally not.  Under the LSTA2 purchase and sale agreement form widely used for trades of domestic distressed loans, purchaser assumes only loan-related liabilities that arise from facts or circumstances occurring after the closing date.3

Can upstreams affect whether purchaser acquires good title to the loans themselves?
A record transfer of loans generally occurs when the agent accepts an executed Assignment and Acceptance (“A&A”) in the form mandated by the credit agreement, and records the transfer in its register.  So even though upstreams routinely contain seller representations that buyer received good title to the subject loans and related rights, the likelihood that buyer will ever have to rely upon such representations with respect to the loans themselves is very low.

Are upstreams ever irrelevant?
Upstreams are largely irrelevant in three instances:  “par/near-par” trades of domestic bank debt, because such trades close solely on A&As, which do not identify predecessors-in-interest; trades of distressed bank debt governed by English law pursuant to LMA4 closing documentation, under which representations and warranties by upstream transferors are generally not reassigned; and trades of allowed bank debt claims reduced to proceeds under a confirmed Chapter 11 plan pursuant to which seller was the record holder of the debt as of the distribution record date.

Can the creditworthiness of prior holders of the loans impact  ownership of the rights being transferred?
The LSTA was forced to publish a market advisory addressing this issue shortly after Lehman commenced its Chapter 11 case, in Fall 2008, when concerns about “Lehman in the upstreams” caused secondary trading of many loans in which Lehman’s name appeared in the chain of title to grind to a complete halt.  The advisory provided that

. . . in the absence of any alleged misconduct by Lehman, and in light of Lehman’s extensive trading activity in the loan market prior to its bankruptcy filings, parties to distressed trades where Lehman is in the upstream chain should, unless discussed and agreed at the time of trade, settle such trades without making any revisions to the LSTA standard distressed purchase and sale documentation on account of perceived Lehman counterparty risk . . .

adding in a footnote that

. . . [i]n a case where there is a credible commercial concern about Lehman’s actual conduct or status in relation to a particular credit, a buyer maintains its longstanding right to negotiate for an appropriate modification to the documentation. . ..

Though trading in loans with Lehman in the chain of title did eventually resume, Lehman’s Chapter 11 would later illustrate two specific title-related risks that concerns about creditworthiness did pose for prospective purchasers, particularly those whose assignments had not yet closed as of the commencement of the Chapter 11 case, or had previously closed on a participation basis.  First, because open trades are generally classified as “executory contracts” under Section 365 of the Bankruptcy Code, Chapter 11 debtors have broad discretion to reject any trades that are “out of the money” from the bankruptcy estate’s point of view, leaving their counterparties with general unsecured pre-petition claims for rejection damages likely to yield far less than the benefit of their respective contractual bargains.  Second, purchasers forced to close on a participation basis – at least on an “English-style” participation in which the grantor (here Lehman) retains legal title to the subject loans5 – generally will not obtain direct ownership interests in distributions made on the underlying loans; the distributions will, instead, become part of grantor’s Chapter 11 estate, with purchasers receiving general unsecured claims against the estate in the respective amounts of the distributions, instead of the distributions themselves.

Do standard distressed debt purchase and sale agreements transfer domestic loans to purchasers free and clear of any upstream defenses, or subject to them?
This fundamental question unfortunately still has not been answered definitively. Judge Scheindlin’s widely-publicized 2007 Enron decision6 suggested that the answer depends upon whether the parties’ transaction should be characterized as a “sale” (akin to sales of real estate, negotiable instruments under UCC Article 3, or securities under UCC Article 8, to good faith purchasers for value without notice), in which event purchaser would take the loans free and clear of any defenses, or as an “assignment” (in theory, a transfer negotiated directly between the parties at arm’s length), in which event purchaser would “step into seller’s shoes”, and take the loans subject to the same defenses to which seller and upstream sellers had been subject.  But  the decision has been widely criticized, a further appeal of the decision to the Second Circuit was never taken, and the underlying case was apparently resolved consensually before the Bankruptcy Court was ever able to determine the “sale or assignment” question on remand.

Prudent buyers continue to tread carefully where current or upstream seller conduct or status appears to give rise to a colorable defense to the enforceability of the loans.

Are upstreams relevant to the Chapter 11 plan process?
They can be.  Loan purchases committed to, or closed, late in the borrower’s Chapter 11 case may bind purchaser to elections made by its predecessors-in-interest that can affect the amount and nature of the distributions to be made  under Borrower’s Chapter 11 plan in respect of the loans.  Even where a purchaser under a late-case trade (or earlier trade not able to be closed until late in the case) successfully directs upstream holders to make plan elections on its behalf prior to the plan’s voting record date, the holders may be unwilling to take action’s on purchaser’s behalf that involve outlays of additional cash, such as participation in rights offerings and new loan commitments.  Trades not yet closed as of the distribution record date can face additional upstream-related problems, such as restrictions that often apply to further transfers of litigation trust interests distributed under a plan, which may require purchaser to maintain a continuing relationship with the upstream distribution record date holder of the loans for a significant period of time after the closing.

When can a prospective purchaser conduct due diligence on the upstreams that are being transferred to it?
The LSTA distressed trade confirmation standard terms do not obligate seller to deliver upstreams to purchaser for review until after purchaser has legally bound itself to the parties’ trade by orally agreeing to its material terms.7 If, at the time purchaser is ready to agree to the trade, it already has identified particular upstream-related issues it knows it will need to vet prior to closing, such as whether particular plan elections were made by upstream holders or whether certain upstream transfers were made under distressed transfer documentation such that valuable third-party claims have been passed along to the current seller, purchaser may want to condition its agreement to the trade upon seller’s ability to satisfy purchaser on these points.

Can a prospective purchaser refuse particular upstreams?
The LSTA Standard Terms for Distressed Loan Transactions provide only limited guidance on this issue, stating with respect to upstreams only that the parties’ Purchase and Sale Agreement (“PSA”) has to “tak[e them] into account”.8 Depending on the nature of any problems identified during its review of the upstreams, purchaser may seek to have seller correct them prior to closing, or, if the problem is serious enough, substitute other upstreams for them if available.  Precisely what constitutes a defective upstream, and whether the PSA sufficiently “accounts” for the perceived defects, is a matter of negotiation between the parties.

What can purchasers do about lengthy seller delays in delivering upstreams?
It is common in the secondary loan market for distressed loans to be committed to be sold and resold, often multiple times, before the initial sale of the loans has actually closed.  This and other factors, such as periodic agent moratoria on closings to complete monthly and quarterly accountings of payments under the governing credit agreement, borrower recalcitrance in consenting to new lenders, and disagreements between upstream counterparties over closing documentation, can lead to significant delays in purchaser receiving upstreams for review.  An LSTA initiative to attempt to address this issue, so-called “buy-in, sell-out”, or “BISO”, provisions previously implemented by the LSTA for par/near-par secondary loan trades9 was scheduled to go effective for distressed loans on June 1, 201110, but has now been delayed until at least July 2011. The BISO provisions are beyond the scope of these FAQs, but will be the subject of an upcoming newsletter available on this site.

How should investment managers with multiple funds think of upstreams?
Consistent with its “Lehman-in-the-upstreams” approach that, under most circumstances, upstreams are essentially fungible, the LSTA has taken the position that purchasers with multiple funds should not have the right to insist that each upstream be allocated on a pro rata basis among all of the purchasing entities.11 While this approach may have simplified life for broker-dealers allocating their inventory, it raises issues for multiple-fund hedge fund managers and other investment managers, who may have fiduciary duties not to favor one fund or other client whose monies are under management over those of another such entity.  These managers can potentially face a situation where particularly troublesome upstreams – which even the LSTA, in its “Lehman” advisory, acknowledged may still be appropriate for singling out by the prospective buyer under the appropriate circumstances – are overallocated by seller to one of purchaser’s managed accounts, ultimately resulting in a disparity in the accounts’ recoveries.  The prudent approach for the multiple-entity manager therefore may still be to insist upon pro rata allocation at the time the trade is being agreed.


  1. These FAQs address bank loan upstreams, though many of the concepts discussed here also apply to vendor, lease rejection and other bankruptcy claim upstreams.
  2. Loan Syndications and Trading Association.
  3. See LSTA Standard Terms and Conditions for Purchase and Sale Agreement for Distressed Trades (“PSA STC”), §2(b)-(c). This is, of course, in addition to purchaser’s pro rata share of its commitment and other obligations under the Credit Agreement.
  4. Loan Market Association.
  5. The Lehman Court did permit various holders of “true” “US-style” participations to “elevate” their participations to assignments, rendering these holders direct creditors of the respective borrowers to which Lehman’s loans were outstanding (instead of merely creditors of Lehman), ostensibly on the theory that the loans in which the participations were granted represented “property in which [Lehman held] only legal [bare] legal title and not an equitable interest. . .” within the meaning of §541(d) of the Bankruptcy Code, In re Lehman Commercial Paper Inc., Chapter 11 Case No. 08-13900 (JMB) (Bankr. S.D.N.Y. October 6, 2008) (order, inter alia, authorizing Debtor to elevate loan participations). Significant doubt remains as to whether the “US-style” participations customarily granted in the domestic secondary loan market will necessarily escape inclusion in any future grantor Chapter 11 estates.
  6. Enron Corp. v. Springfield Assoc., L.L.C., 379 B.R. 425 (S.D.N.Y. 2007).
  7. See LSTA Standard Terms and Conditions for Distressed Trade Confirmations (“Distressed STC”), §22.
  8. See Market Advisory, “Revised Trading Documents and Distressed Buy-In/Sell-Out Provision”, published by the LSTA as of May 17, 2011.
  9. See Standard Terms and Conditions for Par/Near Par Trade Confirmations (“Par STC”), §16.
  10. 10  Revised as of August 6, 2010, §22.
  11. 11  See Market Advisory, “Allocation of Upstreams”, published by the LSTA as of June 7, 2010.
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