Category Archives: Court Procedures & Protocol
Date Created: Wed, 2019-01-23 14:18
Published by the ABI Business Reorganization Committee
Link to Newsletter is here.
As transactional business attorneys, we strive to craft documents that are bullet-proof, covering every what-if scenario should a deal fall apart. We hope that the agreements we draft will result in a fair and just consequence for all parties to the bargain.
On Sept. 13, 2018, the U.S. Court of Appeals for the Third Circuit issued its opinion in Energy Future Holdings Corp., et al. (Appellee) v. NextEra Energy Inc. (NextEra) (Appellant), affirming the U.S. Bankruptcy Court for the District of Delaware’s decision in the In re Energy Future Holdings Corp., et al., (EFH) (debtors) chapter 11 bankruptcy cases, striking a $275 million break-up fee (termination fee). What practical tips can we learn from this case?
The debtors owned an 88 percent economic interest in the rate-regulated business of Oncor Electric Delivery Co. LLC (Oncor), the largest electricity transmission and distribution system in Texas. On July 29, 2016, the debtors entered into an Agreement and Plan of Merger (Agreement) with NextEra, pursuant to which NextEra would acquire the debtors’ interest in Oncor. The Agreement provided that, but for certain exceptions, the debtors must pay a $275 million termination fee to NextEra if the debtors terminated the Agreement. The debtors would not have to pay the termination fee if they could not get regulatory approval by the Public Utility Commission of Texas (PUCT) and NextEra (not the debtors), then terminated the agreement. If the PUCT did not approve and the debtors then terminated the Agreement, then the break-up fee was to be due and payable to NextEra.
While PUCT regulatory approval was a condition to the merger, the Agreement did not set a date by when such approval was required and did not contemplate the scenario in which the merger would dissolve automatically because the third-party PUCT approval was not obtained. In the face of regulatory rejection, NextEra could simply “be patient,” wait for the debtors to terminate first, then collect the $275 million break-up fee. And that is exactly how it played out.
Ultimately, the PUCT refused to approve the merger because NextEra, a.k.a. the “deal-killers,” refused to comply with the (1) the requirement that Oncor maintain an independent board of directors, and (2) the ability of certain minority shareholders to veto dividends. Without PUCT approval and with another purchaser waiting in the wings, the debtors formally terminated the Agreement based on the failure to obtain regulatory approval and NextEra’s alleged breach of the Agreement.
NextEra filed an application seeking recovery of its $275 million administrative claim in the chapter 11 cases. Creditors of the debtors simultaneously sought reconsideration of prior approval of the termination fee. In an extraordinary move, Judge Sontchi amended his previously approved order so as to have the practical effect of striking the award of the $275 million termination fee.
Judge Sontchi explained that he had “fundamentally misapprehended the facts as to whether the Termination Fee would be payable if the PUCT failed to approve the NextEra Transaction.” No party made him aware “that if the PUCT did not approve the NextEra Transaction, the Debtors could eventually be required to terminate the Merger Agreement and trigger the Termination Fee unless NextEra terminated first of its own volition.”
On appeal, the Third Circuit, after taking the matter upon direct certification, rejected NextEra’s argument that the motion to reconsider was untimely, since the Approval Order was interlocutory and not a final order. The Third Circuit also found that the lower court fundamentally misjudged the likelihood that the termination fee would be harmful to the estates. Had the bankruptcy court possessed complete knowledge of the facts at the time the Approval Motion was filed, it could not have approved the termination fee as an allowable administrative expense under 11 U.S.C. § 503(b).
Given the totality of the circumstances, the fee was not an “actual, necessary cost and expense of preserving the estate” under 11 U.S.C. § 503(b)(1)(A). “Payment of a termination or break-up fee when a court (or regulatory body) declines to approve the related transaction cannot rovide an actual benefit to a debtor’s estate sufficient to satisfy the statutory requirement.” The termination fee was detrimental, with the debtors “back to square one and, with the passage of time, in a worse off position — desperate to accept an alternative transaction.”  The Third Circuit further noted that NextEra’s bid was not designed to provide a competitive benefit. Although the termination fee was intended to induce NextEra to adhere to its bid, this benefit was potentially negated by the perverse incentive that resulted, inducing NextEra to hold firm against any burdensome ‘deal killer’ conditions.” The termination fee would have created substantial financial risk if the PUCT did not approve the transaction, and it had the “potential to be disastrous.”
It should be noted that this Third Circuit Opinion was not a majority opinion. In the dissent, Judge Rendell took issue with (1) the grant of a delayed reconsideration motion when there had been no clear error of fact or law, and (2) what he viewed as a flawed analysis of the benefit to the estates as though there had been no pre-approval of the termination fee as part of the Merger Agreement. Judge Rendell writes that even if the bankruptcy court judge “failed to appreciate a particular set of potential consequences”, that “hindsight cannot justify nullifying a material term of the deal that was struck….”
Practical Takeaways from this Case and Appeal
- Have you made the material terms and conditions of a sale transaction as clear as you can at the approval hearing? Have you provided testimony of parties involved?
- Does the Agreement set forth the necessary time frame for completing the condition?
- Is the condition one that can only be satisfied by a third party, i.e., a regulatory body?
- Is it clear who bears the risk if the third party does not satisfy the condition?
- What impact will a failed condition have on an agreement? Will one party have undue influence on that third party’s ability to satisfy the condition? Which party will be deemed to be in breach if the condition is not satisfied?
- Is the dollar amount of the break-up fee commensurate with the value the prospective purchaser is or is not bestowing upon the estate?
Does the fee provide a competitive benefit? Could a break-up fee have a perverse incentive to induce a buyer to hold firm against certain burdensome
 In re Energy Future Holdings Corp., 904 F.3d 298, 314 (3d Cir. 2018).
 In re Energy Future Holdings Corp., 575 B.R. 616 (Bankr. D. Del. 2017).
 In re Energy Future Holdings Corp., 904 F.3d at 302.
 Id. at 304.
 Id. at 306.
 Id. at 306.
 Id. at 307.
 Id. at 306.
 Id. at 304.
 Id. at 307-310.
 Id. at 306, 315.
 Id. at 313-315.
 Id. at 307 (citing In re Energy Future Holdings Corp., 575 at 635).
 Id. at 314.
 Id. at 315.
 Id. at 317.
Fear of the unknown. The Ch. 11 process is unknown to many. C-level executives
dread discussions about bankruptcy options. We just recently filed a new Chapter 11 case and thought we would write a series of posts on basic Ch. 11 procedural matters so as to demystify the process.
Filing Chapter 11 (reorganization/restructuring) is a powerful tool that can be invoked by businesses and certain individuals pursuant to Title 11 of the United States Code (aka the “Bankruptcy Code”). As a practitioner, I am privileged to be able to facilitate such restructurings. Here is the first post in this series on Ch. 11 basics.
The administrative burden of filing a case can be heavy. Often, a paralegal is running the “paper pushing” ship just before and shortly after a case is filed. Information gathering. Data compilation. Report generation. A debtor’s bookkeeper, accountant and/or CFO all work with Debtor’s counsel and paralegal staff to gather necessary documentation and to fulfill requirements imposed by the Court and the United States Trustee (appointed by Department of Justice). Each office has very specific document requests, rules and procedures.
In furtherance of a U.S. Trustee’s monitoring responsibilities, here is a list of what the U.S. Trustee wants prior to the Initial Debtor Interview. Most of the documentation requested is straightforward and anticipated:
- Bank account statements.
- Latest filed Federal Tax Returns or copy of extension to file.
- Financial statements.
- Payroll detail.
- Rent roll.
- Accounts receivable detail.
- Recently filed sales tax
- Recently filed payroll returns.
- Detail of intercompany transactions.
- Accounts payable detail.
- Check register for last 60 days.
- Filed Scheduled and Petition
Other requirements are not as obvious. Two that specifically need explanation are:
- Proof of establishment of Debtor-In-Possession account(s)
- Proof of insurance indicating that the Office of the U.S. Trustee is an additional certificate holder.
Once a debtor has filed a bankruptcy petition, it must close existing bank accounts and open new accounts which identify the debtor as a debtor in possession (“DIP”). All money from the bankruptcy “estate” (i.e. anything the debtor owns) must be put into these accounts. The title of “Debtor in Possession” must be printed on the checks along with the bankruptcy case number. The Bank will not issue a debit card for a DIP account.
While this seems complicated at first, the good news is that this is standard procedure. So, any bank should be familiar with this request. However, a debtor cannot go to just “any” bank. The U.S. Trustee’s Office will only accept DIP accounts from approved depositories. A current list of such institutions is available through the U. S. Bankruptcy Court in the district where the bankruptcy was filed. Approved Banks DIP
Within 15 days of receipt from the bank, a debtor must serve copies of monthly bank statements upon all creditors and interested parties, together with a monthly operating report (MOR) of gross receipts and disbursements. Both the monthly operating report (MOR) and DIP bank statements are publicly filed on a debtor’s docket.
Proof of Insurance
A debtor must maintain all insurance coverage during the bankruptcy process. This includes: general comprehensive liability; property loss from fire, theft or water; vehicle; workers’ compensation; and any other coverage that would be customary in line with the debtor’s business.
In addition to maintenance, a debtor must list the Office of the U.S. Trustee listed as an additional certificate holder and provide proof of such. The documentation of proof must include the type and extent of coverage, effective dates, and insurance carrier information. In order to fulfill the Trustee’s requirements, the debtor will usually have to provide proof of the request. The proof of insurance and additional certificate holder requirement is standard, so the insurance company should not have any trouble fulfilling a debtor’s request.
Please TAKE NOTE that a debtor’s failure to comply could result in DISMISSAL of the case or conversion to a Chapter 7.
This post does not constitute legal advice. Consult an attorney about your specific case.