Holders of bonds sold for the Sports Museum of America by the New York Liberty Development Corp. could find themselves fighting for scraps in bankruptcy court following the financially troubled museum's failure to restructure $57 million of bonds, and its closure on Friday.

"The bondholders will just have to deal with the situation in all likelihood in a Chapter 7 context," said the for-profit museum's attorney, David Warburg, a partner at Seyfarth Shaw LLP. Talks are still underway with potential buyers of the museum, "but nothing concrete," he said.

Under Chapter 7 bankruptcy, a company goes completely out of business and its assets are then sold off by a court-appointed trustee to repay creditors. In 2006, the issuer sold $52 million of tax-exempt Liberty bonds and $5 million of federally taxable bonds on behalf of National Sports Museum Management LLC for the project, then called the National Sports Museum.

The unrated and uninsured bonds were sold through private placement under Rule 144A under the Securities Act of 1933 to qualified institutional investors. The total cost of the museum project was approximately $92.5 million, according to the private placement document.

About $8.5 million of reserve funds were released to bondholders last week, Warburg said. A proposal made earlier this month for a company set up by equity investors in the museum to buy the bonds at a steep discount failed because not enough bondholders would agree to the terms, he said.

SMA Investors LLC was to pay $1.85 million to purchase the outstanding bonds and $8.7 million of reserve funds held by the trustee Bank of New York Mellon were to be released under the failed proposal.

Warburg said that fewer than half of the bondholders were not prepared to sell, but that was enough to scuttle the deal, which would have returned investors about 19 cents on the dollar.

The museum, which was founded by Philip Schwalb and opened in May 2008, suffered from low attendance. Most of its staff has been laid off, though a caretaker staff remains, Warburg said.

The bonds were sold under the Liberty bond program, which Congress enacted to revitalize New York City following the terrorist attacks of Sept. 11, 2001.

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