While much of the attention on the business side of BAPCPA has been focused on the demise of KERPS, the capping of exclusivity and limitations on extensions of time to assume or reject commercial leases, several other provisions may prove as, if not more, nettlesome to debtors attempting to reorganize, particularly in small- and smaller-cap chapter 11 cases. Below, we discuss three such “hidden gems” in the “New Code”:
1. The Back Pay Administrative Expense. An amendment to Section 503(b)(1)(A) provides a first-priority administrative expense to:
wages and benefits awarded pursuant to a judicial proceeding or a proceeding of the [NLRB] as back pay attributable to any period of time occurring after commencement of the case under this title, as a result of a violation of federal or state law by the debtor, without regard to the time of the occurrence of unlawful conduct on which such award is based or to whether any services were rendered, if the court determines that payment of wages and benefits by reason of the operation of this clause will not substantially increase the probability of layoff or termination of current employees, or of nonpayment of domestic support obligations, during the case under this title;
11 U.S.C. sec. 503(b)(1)(1)(A)(ii). This Section would appear to create the risk of substantial administrative expenses in the case of many pre-petition plant shutdowns or layoffs. Assume for example that the debtor closes a plant, lays off the workers and files a chapter 11 petition a few days later, but the debtor, due to the circumstances, does not provide the requisite notice under the WARN Act or its state law equivalent. Under prior law in most jurisdictions, the fact that the closing occurred pre-petition and the workers had stopped working would have prevented the resulting back pay awards from being granted administrative claim status. Under the BAPCPA amendment, if the bankruptcy court allows a claim for WARN Act damages or another back pay award (“wages and benefits awarded pursuant to a judicial proceeding”), the 50-plus days of back pay for the period of mandatory notice that expired post-petition under both federal and state law will constitute a first priority administrative claim, unless the court finds that causing payment will increase the likelihood of further layoffs or loss of jobs. In many liquidating chapter 11 cases, this could be a large number (given the prospect of “stacking” state and federal claims) and will further reduce recoveries to unsecured creditors.
2. The “Forward Contracts” Amendments: In a subtle change to Section 556, that section now permits counterparties to enforce contractual rights to cause the “liquidation, termination or acceleration” of a subject contract, whereas the prior version of the statute had permitted only “liquidation.” Since “liquidation” was seen as a term of art regarding the multi-party settlement of commodities contracts to prevent losses of the nondebtor parties on other, related commitments, many courts saw the language as limiting the types of contracts actually covered by the section. The expanded language removes this rationale and opens the door to claims that many long-term supply contracts to end-user debtors, such as manufacturers, are covered “forward contracts” that may be terminated by the counterparty notwithstanding the automatic stay. Debtors could lose the capacity to assume valuable, in-the-money supply contracts or to preserve “life-line” sole source of supply arrangements.
3. Utilities Amendments. Section 366 has been totally revamped to provide that, inter alia, “an administrative expense priority shall not constitute an assurance of payment.” “Assurance of payment” means a cash deposit, a letter of credit, a certificate of deposit, a surety bond, prepayment or another form of security agreed to by the utility. If the court is called upon to set or modify the proffered “assurance of payment,” the court may not consider the absence of security pre-petition, the debtor’s pre-filing payment record or the availability of an administrative expense priority. In most cases, a pre-petition security deposit will not count either; the utility is permitted to set off against that without leave of court to cover any pre-petition debt. These amendments sound the death knell for the typical, first-day, negative-notice motion to deal with adequate assurance to multiple utilities; such motions typically pointed to the debtor’s perfect pre-petition payment record as adequate assurance and created a procedure whereby the utility had to come to court to achieve a modification, i.e. greater security. Since an administrative expense priority is per se not adequate assurance, and the court may not consider the debtor’s pre-filing payment record in setting adequate assurance, this method will not work. Moreover, in many small-cap and smaller-cap chapter 11 cases, cash-strapped debtors will simply be unable to come up with deposits or letters of credit unless those forms of security are funded from DIP financing, taking much-needed working capital from the debtor when it most needs it. This provision is likely to have a much larger impact on cases than many Code watchers anticipate.