A. Recent Developments Regarding Make-Whole Provisions
Annual Spring Meeting
Washington, D.C.
April 2019
Randye B. Soref
Polsinelli LLP
Los Angeles
A. The Ultra Petroleum Saga: In re Ultra Petroleum Corp.1
1. The Bankruptcy Court Decision: In re Ultra Petroleum Corp.
The bankruptcy court held that a make-whole premium was payable to lenders under the debtor's plan of reorganization, where the parties' loan agreement expressly provided that the premium was due upon an automatic acceleration triggered by the debtor's bankruptcy filing, despite the fact that the plan proposed to leave the lenders unimpaired pursuant to § 1124(1). The bankruptcy court certified its decision for direct appeal to the Fifth Circuit.
One of the debtors (OpCo) issued $1.46 billion in unsecured notes pursuant to a master note-purchase agreement (MNPA). OpCo had a right under the MNPA to prepay the notes at 100 percent of their principal amount plus a contractual "make-whole amount." Upon the occurrence of any contractual event of default, which included OpCo's filing of a bankruptcy petition, the entire unpaid principal, all accrued and unpaid interest, and any make-whole amount would become immediately due. Thus, the MNPA in effect made the make-whole amount due upon the automatic acceleration of the debt triggered by a bankruptcy filing.
After it filed its chapter 11 petition, OpCo became solvent and proposed a chapter 11 plan providing for full payment of unsecured claims, including the notes, along with a substantial recovery for equityholders. However, the plan of reorganization did not propose to pay noteholders the make-whole amount or to pay post-petition interest on the holders' claims at the default rates provided under the MNPA. Notably, the plan treated the noteholders as unimpaired under § 1124(1), which requires that the plan "leaves unaltered the legal, equitable, and contractual rights to which such claim or interest entitles the holder of such claim or interest."
An ad hoc committee of noteholders objected to the plan on the grounds that the noteholders' claims could not be unimpaired unless the make-whole amount and post-petition interest were paid. OpCo argued that the claim for the make-whole amount should be disallowed because:
1. the claim sought unmatured interest on unsecured claims barred by § 502(b)(2); and
(2) the make-whole amount was an unenforceable penalty, rather than an enforceable liquidated-dam-ages provision under New York law. The bankruptcy court observed that the make-whole amount in dispute was over $350 million.
The bankruptcy court first held that the debtors had failed to prove that either the make-whole amount or the default interest amounts were unenforceable under New York law. The bankruptcy court found that damages resulting from prepayment of the notes were not readily ascertainable at the time the MNPA was executed and that the parties agreed on the reinvestment rate in the MNPA as a reasonable approximation of noteholders' damages. Further, the make-whole amount and default interest did not lead to a double recovery of actual and liquidated damages for the same injury, because "the Make-Whole Amount only liquidates the noteholders' damages stemming from the early termination of their investment; in contrast, the postpetition default interest compensates the holders of the Noteholders for the debtors' failure to pay the principal, unpaid interest, and Make-Whole Amount as they came due at the time of acceleration of the Notes."
The bankruptcy court further rejected the debtors' argument that the issue of "impairment" should be applied only to the noteholders' "allowed claims under the Bankruptcy Code" (which, according to the debtors, would have excluded the make-whole amount as disallowed unmatured interest), rather than being applied to the noteholders' full state law claims. The bankruptcy court adopted the noteholders' argument that "unimpairment" required that the noteholders receive all that they were entitled to receive under state law, which included the make-whole amount, stating that "'unimpairment' under § 1124(1) entitles a claimant's nonbankruptcy rights to be fully honored."
Takeaway: Bankruptcy courts determining enforceability of make-whole provisions often employ a two-pronged test. First, is the make-whole premium enforceable under state law? If the premium passes this test, the second hurdle is the Bankruptcy Code itself. If the Bankruptcy Code disallows a portion of a creditor's claim (even if allowed under state law), then the claim is unimpaired. Section 1124(1) says "a class of claims or interests" is not impaired if "the plan ... leaves unaltered the [claimant's] legal, equitable, and contractual rights." The bankruptcy court found that the Bankruptcy Code, and not the plan, altered the right.
(2) The Fifth Circuit Decision: In Re Ultra Petroleum2
On Ja. 17, 2019, a three-judge panel of the Fifth Circuit Court of Appeals reversed in part and vacated in part the bankruptcy court's decision. In reversing, the Fifth Circuit discussed the historical basis of the "solvent debtor" exception in the context of whether the Bankruptcy Code disallowed the claims for the make-whole amount and...
