Electric energy giant Energy Future Holding Corp. filed a petition for rehearing and rehearing en banc, asking the Third Circuit to reverse a three-judge panel’s decision or certify the underlying state law question to the New York Court of Appeals, to avoid a potential split with the Second Circuit.
In its Nov. 17 opinion, a panel of the Third Circuit held Energy Future liable for what the company said could be $900 million in so-called makewhole premiums.
Unless the Third Circuit reverses itself, Energy Future says that New York and Delaware, “the two jurisdictions that handle the most chapter 11 cases in the nation,” will be “split” on a “significant and frequently concurring question of law.” Energy Future insinuates that the Third Circuit panel’s opinion, as it stands today, makes Delaware a distinctly less attractive venue for some large companies facing reorganization.
What Are Makewhole Premiums?
Bond indentures often contain provisions calling for yield maintenance, or makewhole premiums, to compensate bondholders for having to reinvest at lower interest rates if the loan is repaid before maturity. In essence, the provisions are disincentives to refinance when interest rates drop.
Often, indentures are not crystal clear on whether the premiums are due if prepayment occurs in chapter 11 cases because the debt is accelerated automatically on filing.
In recent years, the issue first arose in a major case when the Second Circuit held in 2013 that then-bankrupt American Airlines was not liable for a makewhole premium because the indenture contained a “for the avoidance of doubt” clause providing that the premium was not owing if there were a default. Bankruptcy was a default in the eyes of the Second Circuit, thus absolving the airline of liability for the makewhole.
Since then, bondholders and issuers have disagreed about the liability for makewhole premiums resulting from automatic acceleration occurring in chapter 11.
Is there a uniform rule, or does the outcome depend on the language of the indenture? The case law has yet to answer that question.
The Third Circuit Panel Opinion
In a unanimous decision in November written by Circuit Judge Thomas L. Ambro, the Third Circuit reversed the two lower courts and held Energy Future liable to pay makewhole premiums, adding $900 million to the debt in the chapter 11 reorganization of the energy generator and distributor that began in April 2014.
For the panel, Section 3.07 was the pivotal provision in the indenture. Entitled “Optional Redemption,” it provided that the company could “redeem” the notes by paying the principal and accrued interest “plus the Applicable Premium.” Judge Ambro interpreted New York law to mean that redemption includes “both pre- and post-maturity repayments.” The redemption was optional, he said, because the debtor could have reinstated the debt in a chapter 11 plan.
The Third Circuit panel therefore concluded that Section 3.07 required paying the premium.
The Second Circuit Case
In MPM Silicones LLC, 16-1682 (2d Cir.), now sub judice in the Second Circuit, the two lower courts absolved the debtor company of liability for a makewhole.
The lower courts relied on New York law for the proposition that a lender loses the right to a makewhole by accelerating a debt, unless the indenture clearly and unequivocally calls for a makewhole despite acceleration. The lower courts concluded there was no makewhole liability because the indenture did not clearly and unambiguously call for a premium following automatic acceleration resulting from bankruptcy.
MPM Silicones, also known as Momentive Performance, was argued in the Second Circuit on Nov. 9. The Third Circuit’s Nov. 17 decision plainly says that MPM Silicones was wrongly decided in the lower courts. Needless to say, both sides immediately wrote to the Second Circuit panel explaining why the Third Circuit was right or wrong.
Reasons for Rehearing
Energy Future’s rehearing motion is based on the argument that no court interpreting New York law has ever made a distinction between a redemption and a repayment when deciding whether a makewhole is due. New York law, according to the energy producer, calls for a makewhole only if liability is clear and unambiguous in the indenture.
Energy Future says that the Third Circuit panel “reverse[d] the usual presumption.” If liability for a makewhole is at issue following “prepayment,” Energy Future says that New York courts uniformly place the burden on the lender to “identify express language making the premium applicable after acceleration.”
In the judgment of Energy Future, the Third Circuit panel incorrectly reversed the presumption when the payment is deemed a “redemption” by requiring the debtor to show that the premium is not due even after automatic acceleration.
Relief Requested on Rehearing
Saying the law is “in a regrettable state of confusion,” Energy Future wants the Third Circuit to grant rehearing and certify the question to the New York Court of Appeals, New York’s highest court. The company says that the Second Circuit might do the same thing before finally deciding MPM Silicones.
Or, Energy Future wants the Philadelphia-based appeals court to withhold ruling on the rehearing motion until the Second Circuit decides MPM Silicones.
Should the Second Circuit uphold the lower courts in MPM Silicones, the panels of the two circuits will arguably be split, but on a question of New York State law. A split on state law would not make for an appealing certiorari petition because the Supreme Court would not be the final authority.
Former Solicitor General Paul D. Clement is representing Energy Future in the Third Circuit on the rehearing motion. In the petition for certiorari filed in the Supreme Court last week, he is counsel for petitioner General Motors LLC.
To read ABI’s discussion of the Third Circuit panel opinion, click here.