Debtor-in-Possession Financing (DIP)

DIP financing is the bridge that lets a debtor keep operating during a Chapter 11 case. The exam tests the four authorization tiers, what "adequate protection" means for a primed lender, and the loan features that distinguish DIP credit from ordinary commercial lending.

What Are the Four Post-Petition DIP Credit Tiers?

Most real-world DIP facilities involve Tier 3 or Tier 4. The court order approving the DIP describes the priority structure and any liens the DIP lender will receive.

Exam Tip: Gotchas

• Tier 4 priming-lien financing CAN BE senior to pre-petition secured lenders, but only if the court finds adequate protection for the primed lender AND the debtor could not obtain credit on less burdensome terms.
• Most DIP facilities are consensual. The pre-petition secured lender usually agrees (or actually IS the DIP lender) to protect its existing position; contested priming is the exception.

What Features Are Common to DIP Loans?

DIP loans typically include several features that distinguish them from ordinary commercial credit:

• Super-priority administrative claim: paid before all other administrative claims (professional fees, ordinary post-petition trade)
• Liens on unencumbered assets and/or junior liens on encumbered assets: maximize collateral coverage for the new money
• Priming liens (with consent of the pre-petition secured lender in most cases, or by court order over objection in contested cases)
• Tight financial covenants and budget compliance requirements: the DIP budget controls cash use week by week
• Roll-up of the pre-petition revolver into the DIP facility: the pre-petition lender's existing exposure gets re-papered as DIP debt and obtains super-priority status
• Milestones: sale-process deadlines, plan-confirmation deadlines, or other gates the debtor must hit on a defined timeline

The combination of super-priority status, broad collateral, tight covenants, and milestones gives the DIP lender enormous control over the case.

Exam Tip: Gotchas

• A "roll-up" converts pre-petition debt into DIP debt. The pre-petition senior secured lender's existing exposure gets relabeled and gains super-priority status. Roll-ups are heavily contested by unsecured creditors because they reduce the pool of recoveries.
• The DIP budget controls cash use. A debtor that drifts from the approved DIP budget can lose access to further DIP draws and may face acceleration; the DIP budget is a hard operational constraint, not a soft forecast.

What Is Adequate Protection for a Primed Secured Creditor?

When a pre-petition secured creditor's collateral is used, sold, or primed, the Bankruptcy Code requires the debtor to provide adequate protection to compensate for any diminution in value:

• The concept protects existing secured creditors when their collateral position is impaired by the case
• Forms of adequate protection: periodic cash payments, replacement liens on other property, or an "indubitable equivalent" of the secured interest
• Failure to provide adequate protection is grounds for relief from the automatic stay

Adequate protection is the doctrine that lets a Chapter 11 case proceed without immediately wiping out pre-petition secured creditors. It is also the negotiating space where most DIP financing deals get done.

Exam Tip: Gotchas

• Adequate protection compensates for DIMINUTION in value, not for the secured creditor's full claim. If the collateral is not depreciating, no adequate protection payment may be required at all.
• Failure of adequate protection is grounds for stay relief. The pre-petition secured lender can move to lift the stay and foreclose if adequate protection fails; this is the leverage that disciplines debtors and DIP lenders.

How Does a DIP Order Typically Get Approved?

The standard DIP-financing approval sequence:

1. Day-one motions: at filing, the debtor moves for interim DIP approval and authority to use cash collateral
2. Interim order: court typically approves an interim DIP order at a first-day hearing, providing some draws and basic protections
3. Final hearing: scheduled after adequate notice to creditors and the unsecured-creditors committee, at which the court enters the final DIP order
4. Final DIP order: court enters a comprehensive final order setting priority, liens, milestones, and remedies

The interim order keeps the company funded while the UCC and other creditors review the terms; the final order locks in the structure for the rest of the case.

Exam Tip: Gotchas

• The interim DIP order is signed in the first days of the case. Operating businesses cannot wait for a final order before funding payroll; the Bankruptcy Code permits emergency interim relief limited to what is needed to avoid immediate harm.
• The UCC negotiates against the final DIP order. The interim order locks in some basics, but the final order is where the UCC pushes back on roll-ups, milestones, and lender protections.

What Should You Check on Exam Day?

• Can you rank the four DIP authorization tiers from ordinary-course unsecured up to a priming lien, and name what each tier requires?
• Do you know a priming lien requires both a showing that the debtor could not obtain credit otherwise AND adequate protection for the primed lender?
• Can you explain what adequate protection compensates for (diminution in value, not the full secured claim) and why its failure is grounds for stay relief?
• Do you know the two-step DIP approval: an emergency interim order early in the case, then a final DIP order after adequate notice and a final hearing?