A bankruptcy judge has dealt a big blow to Aé ropostale Inc.'s bid to survive chapter 11, refusing to rein in the bidding rights of Sycamore Partners, a former big backer and now major critic of the retailer.

Judge Sean Lane, in a decision signed Thursday but not made public until Friday afternoon, said Sycamore is entitled to wield its $151 million loan as currency at the bankruptcy auction of the retail chain, a so-called credit-bid that gives it an advantage in the competition.

The ruling portends bad news for landlords and employees of the teen fashion retailer, which has been at odds with Sycamore since before it filed for bankruptcy protection in May. The private-equity firm has said liquidation may be the best outcome for Aé ropostale and its stores, and scoffed at the company's hope of a job-saving turnaround.

The credit-bid means Sycamore can walk into the auction without cash, and demand rival bidders pay off the $151 million loan from Sycamore if they want to save, or liquidate, the company.

A spokeswoman and a lawyer for Aé ropostale couldn't immediately be reached for comment. Sycamore, through a spokesman, declined to comment.

During arguments, Aé ropostale warned that allowing Sycamore to credit-bid makes it unlikely that anyone but liquidators will show up at the auction.

Philadelphia's Versa Capital Management has said it would be interested in operating about 500 Aé ropostale stores. Versa's offer wasn't reduced to a signed deal as Aé ropostale and Sycamore fought over the bidding rights.

"Roughly fifteen parties that stepped away from the sale process indicated that Sycamore's 'participation in the process' was an element of their decision," Judge Lane noted in the ruling filed Friday in the U.S. Bankruptcy Court in New York.

"Yet, there remain interested parties at this time," the judge added. Judge Lane said there was evidence Aé ropostale could raise "between $200 million to $300 million in proceeds" of bankruptcy sales.

Sycamore was at one time a big investor in Aé ropostale stock, but sold its stake before the bankruptcy. The private-equity firm owns a major supplier to Aé ropostale, as well as one of the retailer's major lenders.

The retailer accused Sycamore of inequitable conduct in the form of tightening up terms on the supply deal to trigger financial troubles that would push Aé ropostale into bankruptcy. The judge found Sycamore didn't engage in unfair tactics.

Write to Peg Brickley at peg.brickley@wsj.com

(END) Dow Jones Newswires

August 26, 2016 17:05 ET (21:05 GMT)

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