Interfaith Medical Center’s DIP Lender Asserts Loan Defaults; Interfaith Quickly Responds

Shortly before 5:00 p.m. Thursday evening, counsel to the lender under Interfaith Medical Center, Inc.’s debtor-in-possession financing facility, The Dormitory Authority of the State of New York (or DASNY) filed a letter with the Bankruptcy Court for the Eastern District of New York asserting multiple events of default had occurred under the DIP credit agreement. Shortly before 9:30 p.m., Interfaith’s counsel filed its own letter with the bankruptcy court challenging many of the assertions contained in the earlier letter. The respective assertions of both parties are set forth below.

In addition to the letter asserting events of default, DASNY’s counsel also filed a separate document requesting that the bankruptcy court set a conference. Interfaith’s response notes that it agrees that “a court conference would be useful.”

DASNY’s Position

In its letter, DASNY sets out its position as follows (quoting from the letter in relevant part):

As a result of Interfaith’s actions described in detail below, Interfaith is in default of the Final DIP Order and DIP Loan Documents, which Events of Default have occurred and are continuing (collectively, the “Specified Events of Default”). The Specified Events of Default include the following:

1. Interfaith has refused to comply with Section 7.01(k) of the DIP Credit Agreement and Paragraphs 34(h) and 36 of the Final DIP Order requiring Interfaith to consummate the DIP Transaction with respect to the timely transfer of the clinics to Kingsbrook Jewish Medical Center (“Kingsbrook”);

2. Interfaith has refused to comply with Sections 3.11, 5.17, 6.12, 7.01(q-s) of the DIP Credit Agreement to assign any VAP Award to DASNY, pay over any VAP Award to DASNY, recognize that the VAP Award constitutes DIP Collateral, or to use the VAP only in accordance with instructions from DASNY;

3. Interfaith has failed to maintain compliance with its by-laws by maintaining an adequate number of members of its board of trustees in violation of Sections 3.01, 3.02, 4.02(b) and 4.03 (with respect to Subsequent Loans), and 7.01(e) of the DIP Credit Agreement;

4. The resignation of Interfaith’s CEO and COO, combined with Interfaith’s behavior and actions set forth above, constitute a violation of Sections 3.06 and 7.01(m) of the DIP Credit Agreement.

Since Interfaith filed its bankruptcy petition on December 2, 2012, working with DOH, DASNY has provided Interfaith with use of over $180 million of DASNY’s cash collateral and $9.85 million in postpetition financing, and DASNY has committed to provide an additional $11.25 million as part of the DIP Transaction. Notwithstanding this financial support, Interfaith has ceased working with DOH and DASNY and, in particular, has refused to transition its clinics to Kingsbrook.

Interfaith’s refusal to cooperate with DOH and DASNY not only contravenes applicable court orders and the law, but also keeps DOH and DASNY from providing needed capital to the Debtor and worsens the financial footing of the institution. In addition, the Bankruptcy Court entered an order on December 19, 2013 specifically authorizing the transfer of the clinics, which the Debtor did not oppose. Moreover, some $4 million in VAP funds would be made immediately available to Interfaith to facilitate the transfer of the clinics to Kingsbrook. In addition to the $4 million in VAP funds, DOH advised Interfaith on December 23, 2013 that it would consent to an increase in the DIP Facility by DASNY for an additional $3.5 million, bringing the total in DIP financing to be provided to Interfaith by DOH and DASNY to $24.6 million, and that DOH would consent to a delay in the DIP Transaction Deadline for closure of inpatient services, assuming compliance with the DIP Loan Documents. And, since the clinics require financial support to operate and Kingsbrook agreed that any inpatient admissions from the clinics would continue to be for the benefit of Interfaith, Interfaith would have realized a savings of about $500,000 a month with no accompanying loss of inpatient revenue if the transfer had been made.

Notwithstanding all of the above, Interfaith has refused to transfer the clinics, which not only will cause Interfaith the immediate loss in of $7.5 million in badly needed funding and $500,000 per month in savings, but jeopardizes the ability of Interfaith to continue to operate. Simply put, Interfaith has made a bad situation only worse for its patients, the community it serves and its employees.

Even though this situation demands Interfaith’s attention, Interfaith appears to be wasting valuable time and resources by contending, contrary to the DIP Loan Documents, that the $4 million VAP Award received by Interfaith to consummate the DIP Transaction and transfer the clinics can be used even though Interfaith refuses to transfer the clinics. Since these badly needed funds cannot be used by Interfaith apart from the transfer, it is perplexing that Interfaith has refused to timely transfer the clinics to Kingsbrook.

To make matters even worse, Interfaith appears to be in chaos. Patrick Sullivan, the CEO and COO of Interfaith, has announced his intention to resign and has cited in part the trashing of his office and threats to his personal safety as some of the reasons for his resignation. A former board member continues to file a plethora of frivolous pleadings. Interfaith’s board of trustees is operating in violation of its by-laws, which require a minimum of five members. DASNY, DOH, the Patient Care Ombudsman and others are concerned that Interfaith is admitting patients that do not need to be admitted and refusing to discharge patients that should be discharged in order to maintain revenue. The cash needs at Interfaith have dramatically increased so that Interfaith now requires as much as $5 million a month. Indeed, Interfaith has advised DASNY that without a cash infusion it cannot make payroll to its employees perhaps as early as next week much less operate the hospital safely and will begin diverting patients, and yet Interfaith still refuses to timely transfer the clinics to Kingsbrook that would result in $7.5 million in DIP/VAP funding being made available to Interfaith and a savings of $500,000 per month for Interfaith.

Interfaith’s Response

In its subsequent letter, Interfaith responds to the DASNY letter and sets forth its position (quoting from Interfaith’s letter in relevant part):

We write as attorneys for the above-referenced debtor-in-possession, IMC, in response to today’s filing by the Dormitory Authority of the State of New York (“DASNY”) requesting a Court conference [Docket No. 853] and alleging various Events of Default under DASNY’s DIP Credit Agreement with IMC and the related DIP Order [Docket No. 852] (the “Notice”). IMC agrees a Court conference would be useful. As discussed below, however, DASNY’s Notice is inaccurate both regarding the alleged Events of Default and related circumstances. In particular, DASNY’s default allegations are either incorrect or based on alleged technical defaults that could exist only because DASNY repeatedly has refused to amend the DIP Credit Agreement and DIP Order to reflect developments such as the passage of time and increased funding for IMC that occurred entirely as a result of demands and instructions of the New York State Department of Health (“DOH”) and/or DASNY. Moreover, New York State’s dysfunctional dealings with IMC are amply demonstrated by DOH directing IMC to keep operating into March 2014 while DASNY now seeks to cut off IMC’s funding for such operations.

The background to the current situation is as follows. On December 23, 2013, after tentative conclusion of the Court ordered mediation concerning objections to IMC’s Closure and Transition Motion, IMC was to submit proposed Findings of Fact, Conclusions of Law and Order Pursuant to Sections 105,363, and 1108 of the Bankruptcy Code, authorizing the Debtor to Implement, in accordance with New York State Law, a Plan of Closure for the Debtor’s Hospital and Certain Affiliated Outpatient Clinics and Practices (the “Proposed Closure and Transition Order”). Nonetheless, as the Court was advised, early on December 23, DOH, which previously had insisted that IMC then obtain the relief provided for in the proposed order: (a) instructed IMC not to submit the proposed order to the Court; (b) instructed IMC to continue to operate its hospital through approximately March 7, 2014; and (c) promised IMC $3.5 million to fund those operations (and presumably more as IMC has advised DOH that $3.5 million would not be sufficient for IMC to continue operating its hospital through March 7,2014). Further, DASNY supported DOH’s instructions to IMC and agreed to work with DOH as the conduit for the additional $3.5 million (or greater amount) of funding for IMC through an increase in DASNY’s DIP loan commitment to IMC.

Unfortunately, unless the incorrect allegations made by DASNY (and DOH) regarding this and related circumstances, including their obligations to provide promised funding to IMC, are resolved promptly, due to applicable fiduciary duties, IMC will be forced to request that the Proposed Closure and Transition Order be entered by the Court as soon as practicable. To address DASNY’s allegations and so the Court and all parties can understand and, if desired, address what would prompt IMC reluctantly to request immediate entry of the Proposed Closure and Transition Order despite IMC’s fervent hope its hospital could be saved, IMC notes the following recent developments, which IMC has determined would – absent prompt resolution – create too much uncertainty regarding IMC’ s future ability to continue to ensure patient safety or to remain administratively solvent:

1. Despite repeated requests, DOH and DASNY have refused to provide IMC with the $3.5 million increase in the DIP loan promised on December 23,2013 to enable IMC to continue operating after January 6.

2. Despite repeated requests, DOH has refused to agree that IMC may utilize the $4 million in V AP funding already received by IMC to reimburse IMC for IMC expenditures in at least that aggregate amount that IMC already has made to prepare, seek approval of, and work to implement the closure and transition plan. Further, DASNY has advised IMC that DASNY would declare an Event of Default under IMC’s DIP loan agreement if IMC utilizes any of the $4 million of VAP funding already received by IMC.

3. IMC has received neither the remaining $8.9 million of VAP funding requested by IMC (i.e., the portion of the total $12.9 million of VAP funding requested by, but not yet paid to IMC) nor any firm commitment that IMC would receive such additional funding. While DOH and DASNY had not guaranteed that IMC would receive such additional VAP funding (except that the DASNY DIP loan provides a $3.3 million backstop for an equivalent amount of the as yet unfunded VAP award request), DOH and DASNY had stated their expectations that such VAP funding would be forthcoming and had committed to make every effort to assist IMC in obtaining that YAP funding. Nonetheless, IMC understands DOH and DASNY no longer are utilizing their best efforts to assist IMC in obtaining the remainder of the VAP funding.

4. DASNY has refused to negotiate an amendment to the DIP Order to address changes necessary to prevent defaults under its DIP loan agreement due to the extensions of time requested by DOH and to provide for the increased DIP funding commitment DASNY promised to IMC. Thus, as detailed below, DASNY’s Notice is disingenuous at best because DASNY relies on alleged technical defaults created by DOH and DASNY that DASNY had agreed in principle to waive. Indeed, enclosed are copies of a January 8, 2014 email from counsel to DASNY that attached a draft stipulation to override any such technical defaults and of a January 14,2014 email from DASNY’s counsel refusing to discuss IMC’s comments on DASNY’s draft stipulation.

5. While DOH told IMC to continue operating its hospital through approximately March 7, 2014, DOH has only promised IMC $3.5 million of additional funding to cover that two month period of extended operations even though DOH and DASNY understand that the $3.5 million only would provide sufficient funding for IMC to continue hospital operations into late January 2014. Moreover, as noted above, even that promised $3.5 million of funding has not yet been provided to IMC.

6. DOH has refused to tell IMC definitively whether the March 7, 2014 date is the definitive date for closure of IMC’s hospital or there would be still another last minute reprieve for IMC agreed to by DOH and DASNY.

7. As of January 15,2014,237 of IMC’s 287 beds were occupied, including nearly 100 beds in IMC’s behavioral health wards.

8. DOH and DASNY’s explanation for their current positions is that early this week IMC’s Board of Trustees determined to delay (not cancel) the transition of IMC’s clinics to Kingsbrook Jewish Medical Center, which transition previously had been scheduled for January 26,2014, until the fate of IMC’s hospital is determined with certainty. The IMC Board;s view is that it only had agreed to the January 26 transition date based on the understanding that either IMC’s hospital would have been closed by January 26 or there would have been an agreement reached through mediation on keeping all or a portion of IMC’s hospital open. Further, the Board believes IMC’s clinics are vital feeders of patients to IMC’s hospital while it remains open and as long as the ultimate date, if any, of the hospital’s closure remains uncertain, IMC’s clinics should not be transferred. DOH and DASNY, however, have said (without explanation) they believe the January 26 date for transfer of IMC’s clinics could not be deferred and did not depend on resolution of the fate of IMC’s hospital. Further, despite citation to no statute, rule, or document that so provides, DOH and DASNY insist that IMC must complete the clinics transition before IMC may either: (a) utilize any of the $4 million of VAP funding received by IMC to assist IMC in preparing, seeking approval of, or working to implement the closure and transition plan; or (b) receive the $3.5 million of additional DIP financing promised to finance IMC’s operations after January 6, 2014.

As to DASNY’s allegations in the Notice of specific DIP Loan Agreement defaults, IMC will address them if and when necessary. At this point, it is sufficient to note that such allegations either are entirely incorrect or are based on alleged technical defaults that would exist only because of extensions of time and increased funding demanded or agreed to by DOH and/or DASNY. Hence, no such defaults would exist if DASNY agreed to amend the DIP Loan Documents as DASNY previously has said it would do. Regardless, DASNY (and DOH) should be estopped from relying on any such self-created defaults.

While IMC will not attempt to address all of DASNY’s other mistaken allegations in its Notice, IMC notes the following:

a. IMC has not “ceased working with DOH and DASNY”, “refused to transition its clinics to Kingsbrook”, or “refus[ed] to cooperate with DOH and DASNY”. As to the transition of IMC clinics to Kingsbrook, which was not even scheduled to occur until January 26,2014, and was not required to occur until January 31,2014 (the now outdated DIP Transaction Deadline), all IMC has said is that the clinics transition should be delayed until DOH states with certainty the specific date, if any, on which IMC’s hospital will close. As to the remainder of the dealings between IMC and DOH regarding the Closure and Transition Plan, DOH has repeatedly stated IMC has been fully cooperative.

b. Nothing IMC has done has kept “DOH and DASNY from providing needed capital to” IMC.

c. This Court’s December 19,2013 order merely authorizes the transfer of IMC’s clinics to Kingsbrook; the order does not require such a transfer. Moreover, that order was submitted solely to enable Kingsbrook to make preparations for the clinics transfer that Kingsbrook said required entry of the order and was based on DOH’s representation that entry of order would not prejudice the possibility that IMC’s hospital would remain open. Yet now DOH has extended the time IMC’s hospital will operate and refused to state categorically when, if ever, such operations will end. Hence, as IMC’s clinics are primary feeders of patients to IMC’s hospital, any transfer of IMC’s clinics should be deferred.

d. Contrary to DASNY’s Notice, DASNY had agreed to extend the DIP Transaction Deadline for addressing IMC’s outpatient services as reflected in the enclosed draft stipulation from DASNY.

e. IMC is not “in chaos”. Mr. Sullivan’s resignation as COO (which is partly the result of DOH’s constantly changing directives) would not be effective until January 31, 2014 (unless such date is extended). Further IMC is actively pursuing a qualified replacement.

f. While it is true that IMC’s cash needs have increased, that is the direct result of DOH’s and DASNY’s actions. In particular, early in this case DOH forced IMC to change management and since June 2013, DOH has directed the closure ofIMC and then at the last minute reversed its position at least six times. Meanwhile, throughout this chapter 11 case DASNY insisted on cash collateral orders covering only a one month period and reneged on earlier promises of DIP financing for IMC. Of course the uncertainty from DOH and DASNY’s conduct harmed IMC’s operations and, therefore, caused its cash needs to increase.

As of approximately midnight Thursday night, the case docket did not reflect that the court had yet set a date or time for the requested conference between the parties to take place.

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