Bankruptcy as Bailout: Coal Company Insolvency and the Erosion of Federal Law.

• Author: Macey, Joshua

Abstract. Almost half of all the coal produced in the United States is mined by companies that have recently gone bankrupt. This Article explains how those bankruptcy proceedings have undermined federal environmental and labor laws. In particular, coal companies have used the Bankruptcy Code to evade congressionally imposed liabilities requiring that they pay lifetime health benefits to coal miners and restore land degraded by surface mining. Using financial information reported in filings to the Securities and Exchange Commission and in the companies' reorganization agreements, we show that between 2012 and 2017, four of the largest coal companies in the United States succeeded in shedding almost S5.2 billion of environmental and retiree liabilities. Most of these liabilities were backed by federal mandates. Coal companies disposed of these regulatory obligations by placing them in underfunded subsidiaries that they later spun off. When the underfunded successor companies liquidated, the coal companies managed to get rid of their regulatory obligations without defaulting on the pecuniary debts they owed to their creditors.

Our analysis of the coal industry also has implications for bankruptcy theory. First, we provide a novel reason for questioning the view that bankruptcy proceedings should prioritize Chapter 11 reorganization over Chapter 7 liquidation. Recent coal bankruptcies show that companies are using the Bankruptcy Code to externalize costs onto third parties, despite statutes designed to force coal companies to internalize those costs. We argue that reorganization should not undermine Congress's efforts to force firms to internalize the costs they impose on others. When a reorganization threatens to do so, liquidation is the better method for resolving bankruptcies. Second, our account poses challenges for scholars who argue that parties in bankruptcy proceedings should be able to contract around Chapter 11. While there are compelling reasons to allow parties to do this, some mandatory federal rules are necessary to prevent creditors and debtors from negotiating around federal regulatory programs. And third, the use of Chapter 11 to discharge regulatory obligations whose purpose is to further congressional policy impedes the government's ability to adopt certain efficient regulatory designs. Liabilities that can be discharged generally have to have been incurred before the bankruptcy petition. Such policies often take the form of market-based regulations or performance standards. Moreover, bankruptcy judges treat liabilities that can be converted to money judgments as ordinary contracts while giving injunctions what amounts to an effective priority claim. As a result, bankruptcy law creates incentives for regulators to adopt command-andcontrol regulations--a common regulatory design that is disfavored in scholarly circles for being less efficient than the alternatives. We conclude by arguing that many of the strategies coal companies have used to discharge these federal regulatory obligations are illegal.

Table of Contents Introduction I. The Regulatory Landscape A. The Surface Mining Control and Reclamation Act (SMCRA) B. The Coal Act C. Bankruptcy: A Primer D. Local Impacts of Coal Company Bankruptcies II. How Coal Companies Avoid Federal Regulation Through Bankruptcy A. Methodology B. Recent History of Coal Bankruptcies 1. Patriot Coal 2. Alpha Natural Resources 3. Arch Coal 4. Peabody Energy.. C. Bankruptcy Code Provisions That Have Eroded Environmental and Labor Laws 1. Rejecting regulatory obligations 2. Abandoning regulatory obligations 3. Transferring regulatory obligations 4. Inflating asset values III. A Critique of the Continuation Bias A. Bankruptcy Law's Continuation Bias B. Continuation Bias Should Not Undermine Federal Laws C. Continuation Bias Should Not Undermine Market-Based Regulations or Performance Standards IV. Solutions A. Judicial Solutions 1. No spinning off regulatory obligations 2. Judicial priority B. Legislative Solutions 1. No payment deferrals 2. Accurate accounting 3. First priority through legislative decree 4. Extend the look-back period Conclusion Appendix Introduction

In March 2017, Arch Coal and Alpha Natural Resources, respectively the second- and third-largest coal producers in the country, (1) were honored at a summit held at President Trump's Mar-a-Lago resort for their recent emergence from bankruptcy. (2) Alpha received a "Reorganization of the Year" award (3) and Arch won a "Restructuring Deal of the Year" award. (4) Arch's CEO praised the company's restructuring agreement as "establish[ing] a solid foundation for long-term success." (5) A bankruptcy attorney who represented Arch said that the plan would transform the company into a "lean, mean, fighting machine for the coming era." (6)

Although the coal industry commended itself for shedding billions of dollars of debt, (7) the reality is that coal companies designed these agreements to flout federal environmental and labor laws meant to ensure that coal companies restore lands degraded by their extractive activities (8) and provide lifetime retirement benefits to miners. (9) According to the Environmental Protection Agency (EPA) and the Department of the Interior (DOI), these restructuring agreements were "obviously a carefully constructed scheme to evade environmental liabilities through discriminatory classifications and treatments of environmental general unsecured creditors as opposed to other general unsecured creditors." (10) Since 2012, four of the largest American coal producers (11) have used Chapter (11) to discharge or otherwise avoid approximately $5.2 billion in regulatory debts: $3.2 billion in retiree benefits and $1.9 billion in environmental liabilities. (12) These regulatory debts constituted 22% of the total debt discharged in the bankruptcies. (13) This means that at least 22% of the liabilities discharged by the largest coal companies were not business debts, but rather liabilities under federal laws intended to force companies to mitigate environmental damage and to honor pension and health care obligations. (14)

Taxpayers, regulators, and retired miners have been left to foot the bill for reclaiming degraded mines; cleaning up polluted water and farmland; and treating black lung disease, damaged appendages, and other ailments borne of careers in the mines. (15) It is worth noting that these discharges are likely to underestimate the real amount of liabilities owed by the coal companies. A report by the Office of Surface Mining Reclamation and Enforcement found that the bonds forfeited by bankrupt coal companies in Kentucky covered only 52.8% of the true cost of reclaiming the degraded land. (16) And the EPA estimates that it will cost $50 billion to manage the environmental hazards created by the more than 250,000 abandoned and inactive mines that have yet to be reclaimed. (17)

These discharges have left a legacy of uninhabitable land and contaminated water. Abandoned coal mines can poison the local water, destroy marine ecosystems, and devastate agricultural communities. (18) For example, Peabody's failure to reclaim a mine in northeastern Wyoming has ruined the livelihoods of ranchers by destroying the lands their cattle used to graze, choking off the water supply, and displacing cattle and sheep herds. (19) One cattle rancher has been forced to spend hundreds of thousands of dollars to drill wells to support his animals. (20) Another coal mine that Peabody abandoned in Kansas continues to leach approximately 4,500 gallons of metals-contaminated water per month, and the reclamation costs have been foisted onto taxpayers. (21)

Moreover, despite the fact that Congress requires coal companies to provide pensions and health care to retired coal miners, the United Mine Workers of America (UMWA) claims nearly $6 billion in unfunded pension promises. (22) The situation for retired miners became so dire that in 2017, Congress stepped in, introducing a bill to guarantee health care benefits to retired miners whose coverage had been dropped in the course of coal company bankruptcies. (23) Perhaps most troublingly, the coal industry's "success" in this regard threatens to inspire other industries to follow suit; for instance, the owner of the largest East Coast oil refinery filed for bankruptcy at the beginning of 2018 with the aim of discharging its federal environmental obligations, (24) and a natural gas company recently used bankruptcy to evade California's carbon tax. (25)

This Article shows how bankruptcy law has operated to thwart other federal laws. The key takeaway is simple: Coal companies have used the Bankruptcy Code to discharge or otherwise restructure substantial environmental, pension, and health care liabilities in a manner that has eviscerated the regulatory schemes that gave rise to those obligations. From the perspective of bankruptcy theory, we posit that bankruptcy law can be manipulated in a manner that allows corporations to ignore federal environmental and labor laws even when those companies are solvent. (26)

A commonly held view about corporate bankruptcy--known as the Creditors' Bargain Theory (27)--is that bankruptcy proceedings should (1) not disturb nonbankruptcy entitlements (28) and (2) maximize the value of the insolvent firm's estate. (29) The role of bankruptcy law, on this view, is primarily to solve the coordination problem caused by having multiple creditors who all want to seize an insolvent debtor's assets before other creditors. (30) Adherents of the Creditors' Bargain Theory readily concede that bankruptcy law should-- and does--"accord substantial respect to nonbankruptcy entitlements." (31) This Article shows that strategic reorganizations that occur before and during a bankruptcy proceeding can be used to rearrange nonbankruptcy entitlements to the detriment of regulatory obligations. Many of the substantive rules embraced by...