Debtors’ Sale of Assets: Stripping Sureties of their Subrogation Rights

Bella Garabedian

St. John’s University School of Law

American Bankruptcy Institute Law Review Staff

Section 363(m) of title 11 of the United States Code (the “Bankruptcy Code”) sets boundaries in a court’s ability to modify or reverse certain sales and corresponding assumption or rejection of unexpired leases.[1] In Swiss Re Corp. Sols. Am. Ins. Co. v. Fieldwood Energy III, L.L.C. (In re Fieldwood Energy LLC), the United States Court of Appeals for the Fifth Circuit held that the district court did not err in finding that the challenged bankruptcy court’s confirmation order stripping some companies (collectively, the “Sureties”) of their subrogation rights were integral to the sale of the Debtors’ assets  and therefore moot.[2] Specifically, the Court stated that Bankruptcy Code section 363(m) was applicable because the stripping of the Sureties’ subrogation rights was part of what purchasing free and clear meant to the buyers.[3]

In August 2020, Fieldwood Energy and its affiliates (collectively, the “Debtors”) filed for chapter 11 bankruptcy protection.[4] A plan of reorganization was confirmed over a year later.[5] Under the plan, the Debtors’ financial burden included a decommissioning obligation such as: (1) the credit bid sale; (2) divisive mergers of Fieldwood after consummation of the Credit Bid Sale (defined below), with the allocation of some oil and gas assets among the resulting entities; and (3) the abandonment of other oil and gas assets after reaching agreements with the U.S. Department of Justice and the U.S. Department of the Interior (together, the “Government”).[6] Under the plan, the Debtors would satisfy the decommissioning obligations in part through the sale of some of the Debtors’ oil and gas assets and equity interests for roughly $1 billion (the “Credit Bid Sale”).[7]

The issue was whether the subrogation rights of the Sureties that had previously issued surety bonds to the Debtors would survive the reorganization, and the bankruptcy court determined they would not.[8] In the order confirming the plan (the “Confirmation Order”), the bankruptcy court held that the Credit Bid Sale and allocation of assets would be “free and clear” of liens, claims, encumbrances, and other interests pursuant to the Bankruptcy Code.[9] The Confirmation Order stated that the Sureties “shall not be entitled, under any circumstances, to claim a right of subrogation against the Debtors.”[10] The Sureties failed to obtain a stay of the Confirmation Order from the bankruptcy court.[11]

In an appeal to the district court, the Sureties sought to reverse the part of the Confirmation Order allowing the sale of the Debtor’s assets free of their subrogation rights.[12] The district court held that the challenges were statutorily moot under section 363(m) of the Bankruptcy Code and equitably moot under Fifth Circuit case law.[13] The Sureties appealed to the Fifth Circuit, seeking reversal and a remand to the district court.[14]

The Fifth Circuit found that the district court did not err in its conclusion.[15] First, Sureties’ reliance on a 2023 U.S. Supreme Court opinion in MOAC Mall was not reasonable because the Sureties were not dealing with an issue of a waiver or forfeiture.[16] Moreover, the Fifth Circuit perceived the conclusion of statutory mootness under section 363(m) as providing clarity that a party can lose the benefit of its terms, as opposed to the Supreme Court in MOAC Mall which narrowed the effect of Section 363(m).[17] Second, the district court appropriately treated section 363(m) as a nonjurisdicitional precondition to relief that prevented the Sureties from winning on appeal.[18] Third, the Court found that section 363(m) was integral to the sale of the Debtors’ assets, because testimony from the chief executive officer of the purchaser stated that purchasing the assets free and clear of the Sureties’ subrogation rights was vital and “paramount to [the purchasers’] consideration” of proceeding with the purchase.[19] The Sureties also argued against the Court’s denial after they sought a stay in the bankruptcy court, but the Fifth Circuit found that seeking a stay would have no bearing on the appeal.[20] The Fifth Circuit relied upon those reasons to affirm the district court’s decision and the conclusion that the district court did not err in its conclusion.[21]

The Fifth Circuit held that stripping the Sureties of their subrogation rights was integral to the sale of the Debtors’ assets and, therefore, the challenge on appeal was statutorily moot and affirmed the district court’s decision.[22]

In the context of an asset sale, a surety’s subrogation rights will be stripped if that component is essential to the purchaser, ensuring that the sale proceeds transfer unencumbered. Should any subsequent challenge arise regarding those rights, it may be denied as moot under section 363(m), and seeking a stay pending appeal may not be the cure.