Energy Future Holdings Make-Whole Ruling Extends Rationale of Import...


Judge Christopher Sontchi issued a notable opinion last week in the bankruptcy case of Energy Future Holdings Corp., et al. (“EFH”), Case No. 14-10979 (D. Del.), ruling that the repayment in full of certain senior secured notes did not trigger an obligation by the debtors to pay a make-whole premium. One important aspect of this decision is that Judge Sontchi closely followed the reasoning of Judge Robert Drain last year in a similar decision involving a make-whole premium in MPM Silicones, LLC, et al. (“Momentive”), Case No. 14-22503 (S.D.N.Y.), thus extending the rationale of that decision, as well as earlier Southern District of New York cases such as In re Solutia, Inc., and In re Calpine Corp., into Delaware for the first time. (Kelley Drye & Warren LLP represents certain creditors in the EFH cases, but has had no role in these proceedings.)

Make-whole premiums are often used in connection with the issuance of debt in order to protect noteholders with long term investment horizons from being repaid early when interest rates drop. Judge Drain in Momentive held that the right to payment of a make-whole premium must be clearly stated in the applicable indenture, and denied payment in the absence of express language that it was due and owing following a default and an acceleration of the underlying notes caused by the commencement of a bankruptcy case.

The EFH cases presented similar circumstances. At the time of the bankruptcy filing of EFH in April 2014, certain of the EFH debtors were obligated under a series of 10% First Lien Notes (the “Notes”) issued by Energy Future Intermediate Holding Company (“EFIH”). Under the indenture governing the Notes (the “Indenture”), EFIH’s bankruptcy filing caused the automatic acceleration of the Notes. Shortly after the filing, EFIH sought approval of debtor-in-possession financing, in part to repay all principal and accrued interest under the Notes. The indenture trustee for the noteholders (the “Trustee”) objected, contending that the repayment by EFIH constituted an “Optional Redemption” under the Indenture, and that such a redemption gave rise to a secured claim under the Indenture for the make-whole premium. EFIH argued in response that no Optional Redemption had occurred because of the automatic acceleration under the Indenture. Once the acceleration occurred the Notes were due and owing, such that the repayment of the Notes could not constitute an Optional Redemption. Judge Sontchi overruled the Trustee’s objection and permitted EFIH to make the repayment in June 2014, while reserving the Trustee’s right to continue to seek the make-whole premium.

The Trustee subsequently commenced an adversary proceeding, in which it repeated its claim that EFIH’s repayment constituted an Optional Redemption that required the payment of the make-whole premium. It further argued that it could retroactively decelerate the Notes, so that they would not have been due and owing when they were repaid by EFIH in June 2014 with the proceeds of the debtor-in-possession financing, thus bringing the EFIH repayment clearly within the ambit of an Optional Redemption. The Trustee also contended that the deceleration of the Notes would not violate the automatic stay (or alternatively, that cause existed to lift the automatic stay). The Trustee’s complaint additionally stated that the make-whole premium should be payable because EFIH’s bankruptcy filing constituted an “intentional” default in order to avoid paying the make-whole premium, and asserted additional causes of action based alleged breaches of the Indenture and the “perfect tender” rule under New York law. Following discovery, both sides moved for summary judgment.

Judge Sontchi granted EFIH’s motion for summary judgment on most counts, and denied the Trustee’s motion. Similar to Judge Drain in Momentive, he held that “[u]nder New York law, an indenture must contain express language requiring payment of a prepayment premium upon acceleration; otherwise, it is not owed.” He looked first at what he viewed as the plain language of the Indenture, and found it to be indistinguishable from the language in the Momentive indenture (and indentures in other cases), in which there was no express language specifying that a make-whole premium would be owed upon automatic acceleration. Judge Sontchi focused carefully on the distinction between “redemption” and “acceleration.” He noted that under the Indenture, Optional Redemption “is an act separate and apart from automatic acceleration.” He parsed the Indenture closely, and agreed with EFIH that (i) the make-whole premium was due only upon an Optional Redemption, and (ii) repayment following acceleration did not constitute an Optional Redemption. He concluded that the Optional Redemption contemplated a voluntary action by EFIH, and that under New York law, “ a borrower’s repayment after acceleration is not considered voluntary.” The plain language of the Indenture therefore did not require the payment of the make-whole premium in June 2014, when EFIH repaid the Notes were following the automatic acceleration caused by the bankruptcy filing.

Judge Sontchi also turned aside the Trustee’s argument that the make-whole premium should be paid because the bankruptcy filing was an intentional default aimed at avoiding it. He noted first that there was no provision in the Indenture stating that the make-whole premium would be owed if there were an intentional default. Beyond that, he held that even though there was substantial evidence prior to the bankruptcy that EFIH intended to avoid paying the make-whole once it filed, EFIH and the debtors had ample grounds to file bankruptcy due to their unsupportable capital structure and a liquidity crisis. Once in bankruptcy, Judge Sontchi stated, EFIH was free to use whatever rights it had at its disposal to minimize estate liabilities. He also rejected the claim based on a breach of the Indenture, and ruled that there was no violation of the “perfect tender” rule under New York law for the same reason that there was no Optional Redemption – the Notes had already been accelerated.

EFIH did not win a complete victory, however. Judge Sontchi agreed with the Trustee that it has a qualified right under the Indenture to rescind the automatic acceleration that took place upon the bankruptcy filing. He further agreed that if the rescission were to be effective retroactively (i.e., prior to June 2014), then EFIH’s repayment would in fact constitute an Optional Redemption and the make-whole premium would then be due. Although the Trustee could not decelerate without violating the automatic stay, Judge Sontchi ruled that there was a material issue of fact as to whether “cause” existed to lift the stay. He therefore denied EFIH’s motion for summary judgment on this issue, and stated that a trial would need to be held on the merits of whether the Trustee could retroactively decelerate the Notes.

The Trustee will therefore have one more chance, through a motion to lift the automatic stay and an evidentiary hearing, to obtain payment of the make-whole premium. Judge Sontchi rejected the Trustee’s contention that the automatic stay should be lifted if it can be shown that EFIH is solvent (and thus there being no harm to other EFIH creditors, who would still be paid in full if the make-whole premium were to be paid), but acknowledged that solvency would be a significant factor in determining whether “cause” exists to lift the automatic stay.

Disputes over the payment of make-whole premiums in large chapter 11 cases are almost certain to continue, as other debtors will look to take advantage of the current low interest rate environment while it still lasts. Judge Sontchi’s ruling in EFH makes it clear that in Delaware now as well as New York, only clear and express language in the applicable documents will serve to support a claim for such payments.